20090603FRM Exam2009AIMS

2009FRMExamination
AIMStatements
The FRM Study Guide sets forth primary topics and subtopics under the five riskrelated
disciplinescoveredintheFRMexam.ThetopicswereselectedbytheFRMCommitteeas
topics that risk managers who work in practice today have to master. The topics are
reviewedyearlytoensuretheFRMexamiskepttimelyandrelevant.
The Applying Instructional Materials Statements (AIMS) are designed to serve as an

additionalstudyresourceonlyandwillnotinandofthemselvesfullyprepareacandidate
for the FRM examination. They should be used as guidance and support for the readings
outlinedintheStudyGuidetohelpidentifykeylearningobjectivesforeachcorereading.
2009byGlobalAssociationofRiskProfessionals,Inc.

AIMStatements,FRM2009
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IMPORTANTNOTICE
2009FRMTransitionstoTwoLevelProgram
Inresponsetothechangesoccurringintheglobalmarketsandinrecognitionofthegrowingcomplexitiesassociatedwith
the profession of financial risk management, GARP has revised its FRM certification program. By implementing the
revisedprogramthisyear,GARPsFRMCommitteeandBoardofTrusteeshaverespondedtomarketdrivenrequirements
andoutwardlydemonstratedtheviewthatriskmanagementisadynamicdisciplinethatmustcontinuouslyencompass
productinnovationandevolvewithchangingmarketconditions.Theeventsofthepast24monthshaveledtoarapidly
growingandrecognizedneedforskilledriskmanagersworldwide.Toobjectivelyensuretheirskillsetsaresufficientto
meetboththechallengesandopportunitiesofanincreasinglyglobalandinterconnectedfinancialenvironment,theFRM
programssyllabuswasrevisedtomoreadequatelymeasureacandidatesunderstandingofthetoolsnecessarytoassess
financial risks, and the candidates ability to apply those tools in a practicetype setting. This FRM program change is
designed to ensure that the FRM designation continues to evolve and represent the high standards for which it is
recognizedworldwide.
This year the FRM program will transition to a twolevel examination format by offeringfor the last time the full FRM
exam, and for the first time, Level I of the new twolevel FRM exam program. Level I covers core areas of risk
management such as quantitative analysis, financial markets and products, and essential riskmodeling. Level II covers
specifictopicsonthepracticalimplementationandexecutionofapproachestomeasuringandmanagingmarket,credit,
operationalandfirmwiderisks,andalsoincludesanewsectioncoveringcurrentissuesinfinancialmarkets.
Commencingin2010,bothLevelsIandIIwillbeofferedtocandidateseveryMayandNovember.TheFRMCommittee
willcontinuetopublishannuallytheFRMStudyGuidewhichwilldefinethetopics,readings,andtestweightsforboththe
LevelIandIIprogramsforthatyear.
Inthistransitionyear,theFRMincludestwooptionsforNovember2009.CandidatescanchoosetotakethelastfullFRM
exam (candidates who successfully pass this exam and have proper work experience will be awarded the FRM
designation)ortheinauguralLevelIexam(candidateswhosuccessfullypassthisexamwillbeeligibletositfortheLevelII
exam in the future). The 2009 FRM Study Guide has been designed for the transition to a twolevel program and lists
topics,readings,andtestweightsforthetwolevelprogram.
CandidatesoptingtotakethelastfullFRMexamwillbetestedonalltopicsandreadingslistedinthisStudyGuidefrom
bothLevelsIandII.Thefull2009FRMexamwillbea5hour(22.5hoursessions),140multiplechoicequestionexam.
FromLevelsIandIItopicslistedinthisStudyGuide,testweightsandquestionallocationforthefull2009FRMexamwill
beasfollows:
FoundationsofRiskManagement
10%
14questions
QuantitativeAnalysis
10%
14questions
FinancialMarketsandProducts
15%
21questions
ValuationandRiskModels
15%
21questions
MarketRiskMeasurementandManagement
10%
14questions
CreditRiskMeasurementandManagement
10%
14questions
OperationalandIntegratedRiskManagement
10%
14questions
RiskManagementandInvestmentManagement
10%
14questions
CurrentIssuesinFinancialMarkets
10%
14questions
CandidatesoptingtotaketheinauguralLevelIFRMexamwillbetestedontheLevelItopicsandreadingslistedinthis
StudyGuide.The2009LevelIFRMexamwillbea4hour(22hoursessions),100multiplechoicequestionexam.From
theLevelItopicslistedinthisStudyGuide,testweightsandquestionallocationforthe2009LevelIFRMexamwillbeas
follows:
FoundationsofRiskManagement
20%
20questions
QuantitativeAnalysis
20%
20questions
FinancialMarketsandProducts
30%
30questions
ValuationandRiskModels
30%
30questions

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2009FRMCommitteemembers
Dr.RenStulz(Chairman)
RichardApostolik
JuanCarlosGarciaCespedes
Dr.ChristopherDonohue
HervGeny
Dr.SatyajitKarnik
KaiLeifert
SteveLerit,CFA
MichelleMcCarthy
MichaelB.Miller
EzraUziMoualem
Dr.VictorNg
Dr.ElliotNoma
RobertScanlon
SergeSverdlov
AlanWeindorf
OhioStateUniversity
GlobalAssociationofRiskProfessionals
BancoBilbaoVizcayaArgentaria
ICAP
NorthernTrustGlobalInvestments
NewYorkLifeInvestmentManagement
RussellInvestments
TremblantCapitalGroup
TheFinancialInstituteofIsrael&ZRisk
Goldman,Sachs&Co
GarrettAssetManagement
StandardCharteredBank
MicrosoftCorporation
Visa

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2009FRMExamination
AIMSStatements
TableofContents
FoundationsofRiskManagement(LevelITopic)...............................................................5
QuantitativeAnalysis(LevelITopic).................................................................................10
FinancialMarketsandProducts(LevelITopic).................................................................17
ValuationandRiskModels(LevelITopic)........................................................................29
MarketRiskMeasurementandManagement....................................................................41
CreditRiskMeasurementandManagement.....................................................................49
OperationalandIntegratedRiskManagement.................................................................61
RiskManagementandInvestmentManagement..............................................................73
CurrentIssuesinFinancialMarkets...................................................................................81

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FoundationsofRiskManagement(LevelITopic)
LevelIExamWeight:20%,FullExamWeight:10%
Creatingvaluewithriskmanagement
Marketefficiency,equilibriumandtheCapitalAssetPricingModel(CAPM)
Performancemeasurementandattribution
Sharperatioandinformationratio
Trackingerror
FactormodelsandArbitragePricingTheory
Riskmanagementfailures
Casestudies
Ethics
ReadingsforFoundationsofRiskManagement
1. PhilippeJorion,ValueatRisk:TheNewBenchmarkforManagingFinancialRisk,3rd
Edition(NewYork:McGrawHill,2007).
Chapter1TheNeedforRiskManagement
2. NoelAmencandVeroniqueLeSourd,PortfolioTheoryandPerformanceAnalysis(West
Sussex,England:Wiley,2003).
Chapter4TheCapitalAssetPricingModelandItsApplicationtoPerformance
Measurement
3. RichardGrinoldandRonaldKahn,ActivePortfolioManagement:AQuantitative
ApproachforProducingSuperiorReturnsandControllingRisk,2ndEdition(NewYork:
McGrawHill,1999).
Chapter7ExpectedReturnsandtheArbitragePricingTheory
4. RenStulz,RiskManagement&Derivatives(Florence,KY:ThomsonSouthWestern,
2002).
Chapter2InvestorsandRiskManagement
Chapter3CreatingValuewithRiskManagement
5. RenStulz,RiskManagementFailures:WhatareTheyandWhenDoTheyHappen?
FisherCollegeofBusinessWorkingPaperSeries(Oct.2008).
6. RetoGallati,RiskManagementandCapitalAdequacy(NewYork:McGrawHill,2003).
Chapter6CaseStudies
7. GARPCodeofConduct.Availableat:www.garp.com/about/GARPCodeofConduct.aspx.

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ReadingsforFoundationsofRiskManagementAIMS
PhilippeJorion,ValueatRisk:TheNewBenchmarkforManagingFinancialRisk,3rdEdition
(NewYork:McGrawHill,2007).
Chapter1TheNeedforRiskManagement
AIMSAftercompletingthisreading,candidatesshouldbeableto:
Defineriskanddescribesomeofthemajorsourcesofrisk
Differentiatebetweenbusinessandfinancialrisksandgiveexamplesofeach
Relatesignificantmarketeventsofthepastseveraldecadestothegrowthoftherisk
managementindustry
Describethefunctionsandpurposesoffinancialinstitutionsastheyrelatetofinancialrisk
management
Definewhataderivativecontractisandhowitdiffersfromasecurity
Describethedualroleleverageplaysinderivativesandwhyitisrelevanttoariskmanager
Definefinancialriskmanagement
Definevalueatrisk(VaR)anddescribehowitisusedinriskmanagement
DescribetheadvantagesanddisadvantagesofVaRrelativetootherriskmanagementtools
suchasstoplosslimits,notionallimits,andexposurelimits
Compareandcontrastvaluationandriskmanagement,usingVaRasanexample
Defineanddescribethefourmajortypesoffinancialrisks:market,liquidity,credit,and
operational
Withinmarketrisk:
o Describeanddifferentiatebetweenabsoluteandrelativemarketrisk
o Describeanddifferentiatebetweendirectionalandnondirectionalmarketrisk
o Describebasisriskanditssources
o Describevolatilityriskanditssources
Withinliquidityrisk:
o Describeanddifferentiatebetweenassetandfundingliquidityrisk
Withincreditrisk:
o Describeanddifferentiatebetweenexposureandrecoveryrate
o Describecrediteventandhowitmayrelatetomarketrisk
o Describesovereignriskanditssources
o Describesettlementriskanditssources
Withinoperationalrisk:
o Describethepotentialrelationshipsbetweenoperational,marketandcreditrisk
o Describemodelriskanditssources
o Describepeoplerisk
o Describelegalriskanditssources

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NoelAmencandVeroniqueLeSourd,PortfolioTheoryandPerformanceAnalysis(WestSussex,
England:Wiley,2003).
Chapter4TheCapitalAssetPricingModelandItsApplicationtoPerformance
Measurement
Describethecapitalmarketlineandtheconstructionoftheefficientfrontierbothwithand
withoutariskfreeasset.
Describehowthecovariance/correlationofreturnsbetweensecuritiesaffectsthereturns
distributionofaportfolioofsecurities.
DescribetheCapitalAssetPricingModel(CAPM),listitsunderlyingassumptions,and
explainitsimplications,contributionsandlimitations.
Defineandcalculatethepriceofriskandthequantityofrisk(beta).
Definemarketefficiency,identifythethreeformsofmarketefficiency,anddiscussthelink
betweenefficiencyandtheCAPM.
Calculate,compare,andevaluatetheTreynormeasure,theSharpemeasure,andJensen's
alpha.
Computeandinterprettrackingerror,theinformationratio,andtheSortinoratio.
RichardGrinoldandRonaldKahn,ActivePortfolioManagement:AQuantitativeApproachfor
ProducingSuperiorReturnsandControllingRisk,2ndEdition(NewYork:McGrawHill,1999).
Chapter7ExpectedReturnsandtheArbitragePricingTheory
DescribelimitationsanddeficienciesintheCAPM.
DefineanddescribethecomponentsoftheArbitragePricingTheory(APT)model.
CalculateasecuritysexpectedexcessreturnsusingtheAPTmodelandinterpretthe
results.
DiscusstherelationshipbetweenAPTandtheCAPM.
DescribethepropertiesofaqualifiedmodelinthecontextoftheAPT.
Describethedifficultiesinvolvedwithfactorforecasting.
Describesomeofthemethodstypicallyusedinfactorforecasting.
DescribeandcomparetheattributesofpurelystatisticalandstructuralAPTmodels.

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RenStulz,RiskManagement&Derivatives(Florence,KY:ThomsonSouthWestern,2002).
Chapter2InvestorsandRiskManagement
Explainhowexpectedreturnandreturnsvarianceareusedtodescribethereturn
distributionforasecurityorportfolioofsecurities.
Defineanddescribethesignificantcharacteristicsoftheefficientfrontier.
Differentiatebetweendiversifiableandsystematicriskanddescribehowdiversificationcan
reduceriskinaportfolio.
DescribetheCAPM,andexplaintheconceptsofbetaandthesecuritymarketline.
CalculateandinterpretfirmvalueusingtheCAPM.
UsetheCAPMtodiscussthevalueofriskmanagementtoinvestorswithrespectto:
o Afirmsdiversifiablerisk.
o Afirmssystemicrisk.
Defineanddiscussthehedgingirrelevancepropositionasitrelatesto:
o Diversifiablerisk
o Systematicrisk
o RisksvaluedbyinvestorsdifferentlyfromwhatCAPMwouldpredict.
Chapter3CreatingValuewithRiskManagement
Explainhowriskmanagementcancreatevaluebyhandlingbankruptcycosts.
Explainhowriskmanagementcancreatevaluemovingincomeacrosstimeandreducing
taxes.
Describethosecircumstanceswhenriskreductionbenefitingalargeshareholdermay
increaseordecreasefirmvalue.
Explaintherelationshipbetweenriskmanagement,managerialincentives,andthe
structureofmanagementcompensation.
Describedebtoverhang,andexplainhowriskmanagementcanincreasefirmvalueby
reducingtheprobabilityofdebtoverhang.
Explainhowriskmanagementcanreducetheproblemofinformationasymmetryand
increasefirmvalue.

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RenStulz,RiskManagementFailures:WhatareTheyandWhenDoTheyHappen?Fisher
CollegeofBusinessWorkingPaperSeries(Oct.2008).
Definetheroleofriskmanagementandexplainwhyalargefinanciallossisnotnecessarily
afailureofriskmanagement.
Describehowriskmanagementcanfail
Describehowriskcanbemismeasured.
Explainhowafirmcanfailtotakeknownandunknownrisksintoaccountinmaking
strategicdecisions.
Explaintheimportanceofcommunicationineffectiveriskmanagement.
Describehowfirmscanfailtocorrectlymonitorandmanageriskonanongoingbasis
Explaintheroleofriskmetricsanddiscusstheshortcomingsofexistingriskmetrics.
RetoGallati,RiskManagementandCapitalAdequacy(NewYork:McGrawHill,2003).
Chapter6CaseStudies
DescribethefactorsthatledtothefinancialcrisisatMetallgesellschaft.
o Explainastackandrollhedgingstrategy,andidentifywhyusingsuchastrategy
wasineffectiveforMetallgesellschaft.
DescribethefactorsthatledtohugelossesatSumitomo.
DescribethefactorsthatledtothedownfallofLongTermCapitalManagement(LTCM).
DescribethefactorsthatledtothebankruptcyofBarings.
Explainthecontributionofmarket,creditandoperationalrisktypestothefinanciallosses
inalltheabovecases.
GARPCodeofConduct.Availableat:www.garp.com/about/GARPCodeofConduct.aspx.
DescribetheresponsibilityofeachGARPmemberwithrespecttoprofessionalintegrity,
ethicalconduct,conflictsofinterest,confidentialityofinformationandadherenceto
generallyacceptedpracticesinriskmanagement.
DescribethepotentialconsequencesofviolatingtheGARPCodeofConduct.

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QuantitativeAnalysis(LevelITopic)
Mean,standarddeviation,correlation,skewness,andkurtosis
Probabilitydistributions
Estimatingparametersofdistributions
Linearregressionandcorrelation,hypothesistesting
Statisticalinference
Estimatingcorrelationandvolatility
EWMA,GARCHmodels
Maximumlikelihoodmethods
Volatilitytermstructures
Simulationmethods
ReadingsforQuantitativeAnalysis
8. DamodarGujarati,EssentialsofEconometrics,3rdEdition(NewYork:McGrawHill,
2006).
Chapter1TheNatureandScopeofEconometrics
Chapter2ReviewofStatistics:ProbabilityandProbabilityDistributions
Chapter3CharacteristicsofProbabilityDistributions
Chapter4SomeImportantProbabilityDistributions
Chapter5StatisticalInference:EstimationandHypothesisTesting
Chapter6BasicIdeasofLinearRegression:TheTwoVariableModel
Chapter7TheTwoVariableModel:HypothesisTesting
Chapter8MultipleRegression:EstimationandHypothesisTesting
9. Jorion,ValueatRisk,3rdEdition
Chapter12MonteCarloMethods
10. JohnHull,Options,Futures,andOtherDerivatives,7thEdition(NewYork:PrenticeHall,
2009).
Chapter21EstimatingVolatilitiesandCorrelations
11. SvetlozarRachev,ChristianMenn,andFrankFabozzi,FatTailedandSkewedAsset
ReturnDistributions:ImplicationsforRiskManagement,PortfolioSelectionandOption
Pricing(Hoboken,NJ:Wiley,2005).
Chapter2DiscreteProbabilityDistributions
Chapter3ContinuousProbabilityDistributions

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ReadingsforQuantitativeAnalysisAIMS
DamodarGujarati,EssentialsofEconometrics,3rdEdition(NewYork:McGrawHill,2006).
Chapter1TheNatureandScopeofEconometrics
Describethemethodologyofeconometrics.
Distinguishbetweenthedifferenttypesofdatausedforempiricalanalysis.
Describetheprocessofspecifying,interpreting,andvaliditytestinganeconometricmodel.
Chapter2ReviewofStatistics:ProbabilityandProbabilityDistributions
Definerandomvariables,anddistinguishbetweencontinuousanddiscreterandom
variables.
Definetheprobabilityofanevent.
Describetherelativefrequencyorempiricaldefinitionofprobability.
DefineBayestheoremandapplyBayes'formulatodeterminetheprobabilityofanevent.
Describeandinterprettheprobabilitymassfunction,probabilitydensityfunction,and
cumulativedensityfunctionforarandomvariable.
Distinguishbetweenunivariateandmultivariateprobabilitydensityfunctions.
Describemarginalandconditionalprobabilityfunctions.
Explainthedifferencebetweenstatisticalindependenceandstatisticaldependence.
Chapter3CharacteristicsofProbabilityDistributions
Define,calculateandinterprettheexpectedvalueofarandomvariable.
Define,calculateandinterpretthevarianceofarandomvariable.
DefineandapplyChebyshevsinequalitytodeterminetheprobabilitythatarandom
variableliesinacertainrange.

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Define,calculateandinterpretthecovarianceandcorrelationoftworandomvariables.
Define,calculateandinterpretthemeanandvarianceofasetofrandomvariables.
Describethedifferencebetweenconditionalandunconditionalexpectation.
Define,calculateandinterprettheskewnessandkurtosisofarandomvariable.
Describeandidentifyaplatykurticandleptokurticdistribution.
Definetheskewnessandkurtosisofanormallydistributedrandomvariable.
Distinguishbetweenpopulationandsample,andcalculatethesamplemean,variance,
covariance,correlation,skewness,andkurtosis.
Chapter4SomeImportantProbabilityDistributions
Describethekeypropertiesofthenormaldistributionandthestandardnormaldistribution.
Discusstheconceptofrandomsamplingandthesamplingdistributionofanestimator.
Constructafrequencydistributionandcalculaterelativefrequenciesfromafrequency
distribution.
Defineandcalculatethestandarderrorofasamplemean.
Describethecentrallimittheorem.
Describethekeypropertiesofthetdistribution,chisquaredistribution,andFdistribution,
andidentifycommonoccurrencesofeachdistribution.
Chapter5StatisticalInference:EstimationandHypothesisTesting
Describetheconceptofstatisticalinference,includingestimationandhypothesistesting.
Defineanddistinguishanestimatorandaparameter.
Defineanddistinguishbetweenpointestimateandintervalestimation.
Defineandinterpretcriticaltvalues.
Define,calculateandinterpretaconfidenceinterval.
Describethepropertiesofpointestimators.
o Distinguishbetweenunbiasedandbiasedestimators.

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o Defineanefficientestimatorandconsistentestimator.
Explainandapplytheprocessofhypothesistesting.
o Defineandinterpretthenullhypothesisandthealternativehypothesis.
o Distinguishbetweenonesidedandtwosidedhypotheses.
o Describetheconfidenceintervalapproachtohypothesistesting.
o Describethetestofsignificanceapproachtohypothesistesting.
o Define,calculateandinterprettypeIandtypeIIerrors.
o Defineandinterpretthepvalue.
DescribeandinterpretthechisquaredtestofsignificanceandtheFtestofsignificance.
Chapter6BasicIdeasofLinearRegression:TheTwoVariableModel
Explainhowregressionanalysisineconometricsmeasurestherelationshipbetween
dependentandindependentvariables.
Defineandinterprettheresultsofascattergram.
Defineandinterpretapopulationregressionfunction,regressioncoefficients,parameters,
slopeandtheintercept.
Defineandinterpretthestochasticerrorterm(ornoisecomponent).
Defineandinterpretasampleregressionfunction,regressioncoefficients,parameters,
slopeandtheintercept.
Describethekeypropertiesofalinearregression.
Distinguishbetweentwovariableandmultivariableregression.
Describethemethodofordinaryleastsquaresforestimationofparameters.
o Defineandinterprettheresidualsumofsquares.
o Interprettheresultsofanordinaryleastsquaresregression.
Chapter7TheTwoVariableModel:HypothesisTesting
Explaintheassumptionsoftheclassicallinearregressionmodel.
Defineanddistinguishhomoscedasticityandheteroscedasticity.

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Define,calculateandinterpretthestandarderrorsinanOLSmodel.
Defineandinterprettheresidualsumofsquaresandthestandarderrorofaregression.
DescribehypothesistestinginanOLSregressionmodel.
Define,calculateandinterpretthecoefficientofdeterminationandthecoefficientof
correlation.
Describeandinterpretnormalitytestingusinghistogramsandnormalprobabilityplots.
DescribeandinterprettheJarqueBeratestofnormality.
Describeforecasting,orprediction,error.
Chapter8MultipleRegression:EstimationandHypothesisTesting
Distinguishbetweensimpleandmultivariateregression.
Defineandinterpretthepartialslopecoefficient.
Explaintheassumptionsofthemultiplelinearregressionmodel.
Explaintheconceptofmulticollinearityandtheimplicationsithasonmodeling.
Describetheprocessofestimatingparametersofmultipleregression.
Defineandinterpretthevarianceandstandarderrorsinamultilinearregression.
Chapter12MonteCarloMethods
DescribehowtosimulateapricepathusingageometricBrownianmotionmodel.
Describehowtosimulatevariousdistributionsusingtheinversetransformmethod.
Describethebootstrapmethod.
ExplainhowsimulationscanbeusedforcomputingVaRandpricingoptions.
DescribetherelationshipbetweenthenumberofMonteCarloreplicationsandthe
standarderroroftheestimatedvalues.
Describeandidentifysimulationaccelerationtechniques.
ExplainhowtosimulatecorrelatedrandomvariablesusingCholeskyfactorization.

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Describedeterministicsimulations.
Discussthedrawbacksandlimitationsofsimulationprocedures.
JohnHull,Options,Futures,andOtherDerivatives,7thEdition(NewYork:PrenticeHall,2009).
Chapter21EstimatingVolatilitiesandCorrelations
Discusshowhistoricaldataandvariousweightingschemescanbeusedinestimating
volatility.
Describetheexponentiallyweightedmovingaverage(EWMA)modelforestimating
volatilityanditsproperties.
o EstimatevolatilityusingtheEWMAmodel.
Describethegeneralizedautoregressiveconditionalheteroscedasticity(GARCH(p,q))
modelforestimatingvolatilityanditsproperties.
o EstimatevolatilityusingtheGARCH(p,q)model.
o ExplainmeanreversionandhowitiscapturedintheGARCH(1,1)model.
DiscusshowtheparametersoftheGARCH(1,1)andtheEWMAmodelsareestimatedusing
maximumlikelihoodmethods.
ExplainhowGARCHmodelsperforminvolatilityforecasting.
Discusshowcorrelationsandcovariancesarecalculated,andexplaintheconsistency
conditionforcovariances.
SvetlozarRachev,ChristianMenn,andFrankFabozzi,FatTailedandSkewedAssetReturn
Distributions:ImplicationsforRiskManagement,PortfolioSelectionandOptionPricing
(Hoboken,NJ:Wiley,2005).
Chapter2DiscreteProbabilityDistributions
DescribethekeypropertiesoftheBernoullidistribution,Binomialdistribution,andPoisson
distribution,andidentifycommonoccurrencesofeachdistribution.
IdentifythedistributionfunctionsofBinomialandPoissondistributionsforvarious
parametervalues.

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SvetlozarRachev,ChristianMenn,andFrankFabozzi,FatTailedandSkewedAssetReturn
Distributions:ImplicationsforRiskManagement,PortfolioSelectionandOptionPricing
(Hoboken,NJ:Wiley,2005).
Chapter3ContinuousProbabilityDistributions
DescribethekeypropertiesofNormal,Exponential,Weibull,Gamma,Beta,Chisquared,
Studentst,Lognormal,LogisticandExtremeValuedistributions.
Explainthesummationstabilityofnormaldistributions.
Describethehazardrateofanexponentiallydistributedrandomvariable.
ExplaintherelationshipbetweenexponentialandPoissondistributions.
ExplainwhythegeneralizedParetodistributioniscommonlyusedtomodeloperationalrisk
events.
Explaintheconceptofmixturesofdistributions.

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FinancialMarketsandProducts(LevelITopic)
Clearinghousemechanisms,structuralhubs,exchanges
Netting,collateralanddowngradetriggers
Futures,forwards,swaps,andoptions
Derivativesonfixedincomesecurities,interestrates,foreignexchange,equities,and
commodities
Measuringportfolioexposures
Americanoptions,effectsofdividends,earlyexercise
Tradingstrategieswithderivatives
Minimumvariancehedgeratio
Cheapesttodeliverbond,conversionfactors
Commodityderivatives,costofcarry,leaserate,convenienceyield
Basisrisk
Foreignexchangerisk
Corporatebonds
Debtequityswaps,loansales,Bradybonds
ReadingsforFinancialMarketsandProducts
12. JohnCaouette,EdwardAltman,PaulNarayananandRobertNimmo,ManagingCredit
Risk:TheGreatChallengefortheGlobalFinancialMarkets,2ndEdition(Hoboken,NJ:
Wiley2008).
Chapter5StructuralHubs:Clearinghouses,DerivativeProductCompanies,and
Exchanges
13. Hull,Options,Futures,andOtherDerivatives,7thEdition.
Chapter1Introduction
Chapter2MechanicsofFuturesMarkets
Chapter3HedgingStrategiesUsingFutures
Chapter4InterestRates
Chapter5DeterminationofForwardandFuturesPrices
Chapter6InterestRateFutures
Chapter7Swaps
Chapter9PropertiesofStockOptions
Chapter10TradingStrategiesInvolvingOptions
14. RobertMcDonald,DerivativesMarkets(Boston:AddisonWesley,2003).
Chapter6CommodityForwardsandFutures
15. HelyetteGeman,CommoditiesandCommodityDerivatives:ModelingandPricingfor
Agriculturals,MetalsandEnergy(WestSussex,England:Wiley,2005)

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Chapter1FundamentalsofCommoditySpotandFuturesMarkets:Instruments,
ExchangesandStrategies
16. AnthonySaundersandMarciaMillonCornett,FinancialInstitutionsManagement:A
RiskManagementApproach,6thEdition(NewYork:McGrawHill,2008).
Chapter14ForeignExchangeRisk
Appendix15AMechanismsforDealingwithSovereignRiskExposure
17. FrankFabozzi,TheHandbookofFixedIncomeSecurities,7thedition(NewYork:Mcgraw
Hill,2005)
Chapter13CorporateBonds

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ReadingsforFinancialMarketsandProductsAIMS
JohnCaouette,EdwardAltman,PaulNarayananandRobertNimmo,ManagingCreditRisk:
TheGreatChallengefortheGlobalFinancialMarkets,2ndEdition(Hoboken,NJ:Wiley2008).
Chapter5StructuralHubs:Clearinghouses,DerivativeProductCompanies,and
Exchanges
Describethemajorplayersinthederivativesmarket,including:
o Derivativesdealers
o Clearinghouses
o Exchanges
Describemechanismsbywhichanexchangeorclearinghousecanreducecounterpartyrisk,
including:
o Participantstandards
o Contractstandardization
o Marginrequirements
o Netting
o Collateralrequirements
o Downgradetriggers
o Markingtomarket
o Surveillance
Explaintherelationship(s)betweenexchangesandclearinghouses.
Distinguishprivateexchangesfrompublicexchanges.
Describesomeofthelimitationsofstructuralhubs.
Chapter1Introduction
Differentiatebetweenanopenoutcrysystemandelectronictrading.
Describetheoverthecountermarketandhowitdiffersfromtradingonanexchange,
includingadvantagesanddisadvantages.
Differentiatebetweenoptions,forwards,andfuturescontracts.
Calculateandidentifyoptionandforwardcontractpayoffs.
Describe,contrast,andcalculatethepayoffsfromhedgingstrategiesinvolvingforward
contractsandoptions.

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Describe,contrast,andcalculatethepayoffsfromspeculativestrategiesinvolvingfutures
andoptions.
Calculateanarbitragepayoffanddescribehowarbitrageopportunitiesareephemeral.
Describesomeoftherisksthatcanarisefromthe(mis)useofderivatives.
Define:
o Derivative
o Marketmaker
o Spotcontract,Forwardcontract,andFuturescontract
o CalloptionandPutoption
o AmericanoptionandEuropeanoption
o Longpositionandshortposition
o Exercise(strike)price
o Expiration(maturity)date
o Bidpriceandofferprice
o Bidofferspread
o Hedgersandspeculators
o Arbitrageurs
Chapter2MechanicsofFuturesMarkets
Defineanddescribethekeyfeaturesofafuturescontract.
Compareandcontrastforwardandfuturescontracts.
Explaintheconvergenceoffuturesandspotprices.
Describetherationaleformarginrequirementsandexplainhowtheywork.
Describetheroleofaclearinghouseinfuturestransactions.
Describetheroleofcollateralizationintheoverthecountermarketandcompareittothe
marginingsystem.
Identifyanddescribethedifferencesbetweenanormalandinvertedfuturesmarket.
Describethemechanicsofthedeliveryprocessandcontrastitwithcashsettlement.
Defineanddemonstrateanunderstandingoftheimpactofdifferentordertypes,including:
market,limit,stoploss,stoplimit,marketiftouched,discretionary,timeofday,open,
andfillorkill
Define:
o Noticeofintentiontodeliver
o Limitupandlimitdown
o Marginaccount

o
o
o
o
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Initialmargin,maintenancemargin,variationmarginandclearingmargin
Collateralization
Settlementprice
Openinterest
Chapter3HedgingStrategiesUsingFutures
Defineanddifferentiatebetweenshortandlonghedgesandidentifysituationswherethey
areappropriate.
Describetheargumentsforandagainsthedgingandthepotentialimpactofhedgingon
firmprofitability.
Defineandcomputethebasis.
Definethevarioussourcesofbasisriskandexplainhowbasisrisksarisewhenhedgingwith
futures.
Definecrosshedging.
Define,computeandinterprettheminimumvariancehedgeratioandhedgeeffectiveness.
Define,computeandinterprettheoptimalnumberoffuturescontractsneededtohedgean
exposure,includingatailingthehedgeadjustment.
Demonstratehowstockindexfuturescontractscanbeusedtochangeastockportfolios
beta.
Describewhatismeantbyrollingthehedgeforwardanddiscusssomeoftherisksthat
arisefromsuchastrategy.
Chapter4InterestRates
Calculatethevalueofaninvestmentusingdaily,weekly,monthly,quarterly,semiannual,
annual,andcontinuouscompounding.Convertratesbasedondifferentcompounding
frequencies.
Calculatethetheoreticalpriceofacouponpayingbondusingspotrates.
Calculateforwardinterestratesfromasetofspotrates.
Valueandcalculatethecashflowsfromaforwardrateagreement(FRA).

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Describethelimitationsofdurationandhowconvexityaddressessomeofthem.
Calculatethechangeinabondspricegivenduration,convexity,andachangeininterest
rates.
Defineanddiscussthemajortheoriesofthetermstructureofinterestrates.
Define:
o Spotrate
o Paryield
o Bootstrapmethod
o Forwardrateagreement
o Basispoint
o Duration
o Modifiedduration
o Dollarduration
o Convexity
Chapter5DeterminationofForwardandFuturesPrices
Differentiatebetweeninvestmentandconsumptionassets.
Defineshortsellingandshortsqueeze.
Discussthedifferencesbetweenforwardandfuturescontractsandexplaintherelationship
betweenforwardandspotprices.
Calculatetheforwardprice,giventheunderlyingassetsprice,withorwithoutshortsales
and/orconsiderationtotheincomeoryieldoftheunderlyingasset.Describeanarbitrage
argumentinsupportoftheseprices.
Explaintherelationshipbetweenforwardandfuturesprices.
Usetheinterestrateparityrelationshiptocalculateaforwardforeignexchangerate.
Defineincome,storagecosts,andconvenienceyield.
Calculatethefuturespriceoncommoditiesincorporatingstoragecostsand/orconvenience
yields.
Defineandcalculate,usingthecostofcarrymodel,forwardpriceswheretheunderlying
asseteitherdoesordoesnothaveinterimcashflows.
Discussthevariousdeliveryoptionsavailableinthefuturesmarketsandhowtheycan
influencefuturesprices.
Analyzetherelationshipbetweencurrentfuturespricesandexpectedfuturespotprices,
includingtheimpactofsystematicandnonsystematicrisk.

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Definecontangoandbackwardation,interprettheeffectcontangoorbackwardationmay
haveontherelationshipbetweencommodityfuturesandspotprices,andrelatethecost
ofcarrymodeltocontangoandbackwardation.
Chapter6InterestRateFutures
Listthemostcommonlyuseddaycountconventions,identifythemarketsthateachoneis
typicallyusedin,andapplyeachtoaninterestcalculation.
ConvertfromadiscountratetoapriceforaUSTreasurybill.
DifferentiatebetweenthecleananddirtypriceforaUSTreasurybond;calculatethe
accruedinterestanddirtypriceonaUSTreasurybond.
ExplainandcalculateaUSTreasurybondfuturescontractconversionfactor.
CalculatethecostofdeliveringabondintoaTreasurybondfuturescontract.
Describetheimpactofthelevelandshapeoftheyieldcurveonthecheapesttodeliver
bonddecision.
CalculatethetheoreticalfuturespriceforaTreasurybondfuturescontract.
CalculatethefinalcontractpriceonaEurodollarfuturescontract.
DescribeandcomputetheEurodollarfuturescontractconvexityadjustment.
DemonstratehowEurodollarfuturescanbeusedtoextendtheLIBORzerocurve.
Calculatethedurationbasedhedgeratioanddescribeadurationbasedhedgingstrategy
usinginterestratefutures.
Explainthelimitationsofusingadurationbasedhedgingstrategy.
Chapter7Swaps
Explainthemechanicsofaplainvanillainterestrateswapandcomputeitscashflows.
Explainhowaplainvanillainterestrateswapcanbeusedtotransformanassetoraliability
andcalculatetheresultingcashflows.
Explaintheroleoffinancialintermediariesintheswapsmarket.
Describetheroleoftheconfirmationinaswaptransaction.

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Describethecomparativeadvantageargumentfortheexistenceofinterestrateswapsand
discusssomeofthecriticismsofthisargument.
Explainhowthediscountratesinaplainvanillainterestrateswaparecomputed.
Valueaplainvanillainterestrateswapbasedontwosimultaneousbondpositions.
Valueaplainvanillainterestrateswapfromasequenceofforwardrateagreements(FRAs).
Explainthemechanicsofacurrencyswapandcomputeitscashflows.
Describethecomparativeadvantageargumentfortheexistenceofcurrencyswaps.
Explainhowacurrencyswapcanbeusedtotransformanassetorliabilityandcalculatethe
resultingcashflows.
Valueacurrencyswapbasedontwosimultaneousbondpositions.
ValueacurrencyswapbasedonasequenceofFRAs.
Discusstheroleofcreditriskinherentinanexistingswapposition.
Listanddefineothertypesofswaps,includingcommodity,volatilityandexoticswaps.
Chapter9PropertiesofStockOptions
Identifythesixfactorsthataffectanoption'spriceanddiscusshowthesesixfactorsaffect
thepriceforbothEuropeanandAmericanoptions.
Identify,interpretandcomputeupperandlowerboundsforoptionprices.
Explainputcallparityandcalculate,usingtheputcallparityonanondividendpaying
stock,thevalueofaEuropeanandAmericanoption,respectively.
ExplaintheearlyexercisefeaturesofAmericancallandputoptionsonanondividend
payingstockandthepriceeffectearlyexercisemayhave.
Discusstheeffectsdividendshaveontheputcallparity,theboundsofputandcalloption
prices,andontheearlyexercisefeatureofAmericanoptions.
Chapter10TradingStrategiesInvolvingOptions
Explainthemotivationtoinitiateacoveredcalloraprotectiveputstrategy.

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Describeandexplaintheuseandpayofffunctionsofspreadstrategies,includingbull
spread,bearspread,calendarspread,butterflyspread,anddiagonalspread.
Calculatethepayoffsofvariousspreadstrategies.
Describeandexplaintheuseandpayofffunctionsofcombinationstrategies,including
straddles,strangles,strips,orstraps.
Computethepayoffsofcombinationstrategies.
RobertMcDonald,DerivativesMarkets(Boston:AddisonWesley,2003).
Chapter6CommodityForwardsandFutures
Defineforwardstripandforwardcurve.
Describehowtocreateasyntheticcommoditypositionanduseittoexplainthe
relationshipbetweentheforwardpriceandtheexpectedfuturespotprice.
Explaintheeffectnonstorabilityhasonelectricityprices.
Derivethebasicequilibriumformulaforpricingcommodityforwardsandfutures.
Explaintheimplicationbasicequilibriumhasfordifferenttypesofcommodities.
Describeanarbitragetransactionincommodityforwardsandfutures,andcomputethe
potentialarbitrageprofit.
Definetheleaserateandhowitdeterminesthenoarbitragevaluesforcommodity
forwardsandfutures,andexplaintherelationshipbetweenleaseratesandcontangoand
leaseratesandbackwardation,respectively.
Definecarrymarkets.
Explaintheimpactstoragecostsandconvenienceyieldshaveoncommodityforwardprices
andnoarbitragebounds.
Computetheforwardpriceofacommoditywithstoragecosts.
Comparetheleaseratewiththeconvenienceyield.
Discussfactorsthatimpactgold,corn,naturalgas,andcrudeoilfuturesprices.
Defineandcomputeacommodityspread.
Explainhowbasisriskcanoccurwhenhedgingcommoditypriceexposure.
Evaluatethedifferencesbetweenastriphedgeandastackhedgeandanalyzehowthese
differencesimpactriskmanagement.

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HelyetteGeman,CommoditiesandCommodityDerivatives:ModelingandPricingfor
Agriculturals,MetalsandEnergy(WestSussex,England:Wiley,2005)
Chapter1FundamentalsofCommoditySpotandFuturesMarkets:Instruments,
ExchangesandStrategies
Definebilloflading.
Definethemajorrisksinvolvedwithcommodityspottransactions.
Differentiatebetweenordinaryandextraordinarytransportationrisks.
Explainthemajordifferencesbetweenspot,forward,andfuturestransactions,markets,
andcontracts.
Describebasicriskanditskeycomponents.
Describethebasiccharacteristicsanddifferencesbetweenhedgers,speculators,and
arbitrageurs.
Describeanarbitrageportfolioandexplaintheconditionsforamarkettobearbitrage
free.
Definebasisriskandthevarianceofthebasis.
Identifyacommonlyusedmeasurefortheeffectivenessofhedgingaspotpositionwitha
futurescontract;usethismeasuretocomputeandcomparetheeffectivenessofalternative
hedges.
DefineanddifferentiatebetweenanExchangeforPhysicalandagreementandan
AlternativeDeliveryProcedure.
Describeonecommonmeasureofmarketdepth.
AnthonySaundersandMarciaMillonCornett,FinancialInstitutionsManagement:ARisk
ManagementApproach,6thEdition(NewYork:McGrawHill,2008).
Chapter14ForeignExchangeRisk
Calculateafinancialinstitutionsoverallforeignexchangeexposure.
Demonstratehowafinancialinstitutioncouldalteritsnetpositionexposuretoreduce
foreignexchangerisk.
Calculateafinancialinstitutionspotentialdollargainorlossexposuretoaparticular
currency.
Listanddescribethedifferenttypesofforeignexchangetradingactivities.
Identifythesourcesofforeignexchangetradinggainsandlosses.
Calculatethepotentialgainorlossfromaforeigncurrencydenominatedinvestment.

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Explainbalancesheethedgingwithforwards.
Describehowanonarbitrageassumptionintheforeignexchangemarketsleadstothe
interestrateparitytheorem;usethistheoremtocalculateforwardforeignexchangerates.
Explainwhydiversificationinmulticurrencyassetliabilitypositionscouldreduceportfolio
risk.
Describetherelationshipbetweennominalandrealinterestrates.
Appendix15AMechanismsforDealingwithSovereignRiskExposure
Definefouralternativemechanismsfordealingwithproblemsovereigncredits.
Describethemajorincentivesanddisincentivesforparticipantsinadebtforequityswap,
includingtaxconsiderationsandtheimpactofregulatoryconstraints.
Describetheadvantagesanddisadvantagesofmultiyearrestructuringagreements.
Definethemajorelementsofamultiyearrestructuringagreement,including
concessionality.
Describethemajorbenefitsandcostsofloansales.
Describethemajorbenefitsandcostsofbondforloanswaps.
FrankFabozzi,TheHandbookofFixedIncomeSecurities,7thedition(NewYork:McgrawHill,
2005)
Chapter13CorporateBonds
Describeabondindentureandexplaintheroleofthecorporatetrustee.
Explainabondsmaturitydateandhowitimpactsbondretirements.
Describethemaintypesofinterestpaymentclassifications.
Describezerocouponbonds,therelationshipbetweenoriginalissuediscountand
reinvestmentrisk,andthetreatmentofzeroesinbankruptcy.
Describethevarioussecuritytypesrelevantforcorporatebonds,including:
o Mortgagebonds
o Collateraltrustbonds

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o Equipmenttrustcertificates
o Debenturebonds(includingsubordinatedandconvertibledebentures)
o Guaranteedbonds
Describethemechanismsbywhichcorporatebondscanberetiredbeforematurity,
including:
o Callprovisions
o Sinkingfundprovisions
o Maintenanceandreplacementfunds
o Tenderoffers
Describe,anddifferentiatebetweencreditdefaultriskandcreditspreadrisk.
Describeeventriskandwhatmaycauseitincorporatebonds.
Definehighyieldbonds,describetypesofhighyieldbondissuers,andsomeofthe
paymentfeaturespeculiartohighyieldbonds.
Defineanddifferentiatebetweenanissuerdefaultrateandadollardefaultrate.
Definerecoveryratesanddescribetherelationshipbetweenrecoveryratesandseniority.

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ValuationandRiskModels(LevelITopic)
ValueatRisk(VaR)
o Definitionandmethods
o Deltanormalvaluation,fullrevaluation,historicalsimulation,MonteCarlo
simulationmethods
ApplicationsofVaRformarket,creditandoperationalrisk
VaRoflinearandnonlinearderivatives
VaRforfixedincomesecuritieswithembeddedoptions
StructuredMonteCarlo
Termstructureofinterestrates
Discountfactors,arbitrage,yieldcurves
Bondprices,spotrates,forwardrates
DV01,durationandconvexity,durationbasedhedging
Creditratingagencies,creditratings
Credittransitionmatrices
Sovereignriskandcountryriskevaluation
Binomialtrees
BlackScholesMertonmodel
Greeks
Stresstestingandscenarioanalysis
ReadingsforValuationandRiskModels
18. LindaAllen,JacobBoudoukhandAnthonySaunders,UnderstandingMarket,Creditand
OperationalRisk:TheValueatRiskApproach(Oxford:BlackwellPublishing,2004).
Chapter2QuantifyingVolatilityinVaRModels
Chapter3PuttingVaRtoWork
Chapter5ExtendingtheVaRApproachtoOperationalRisks
19. Hull,Options,Futures,andOtherDerivatives,7thEdition
Chapter11BinomialTrees
Chapter13TheBlackScholesMertonModel
Chapter17TheGreekLetters
20. BruceTuckman,FixedIncomeSecurities,2ndEdition(Hoboken,NJ:Wiley&Sons,2002).
Chapter1BondPrices,DiscountFactors,andArbitrage
Chapter2BondPrices,SpotRates,andForwardRates
Chapter3YieldtoMaturity
Chapter5OneFactorMeasuresofPriceSensitivity
21. Jorion,ValueatRisk,3rdEdition.
Chapter14StressTesting

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22. Caouette,Altman,Narayanan,andNimmo,ManagingCreditRisk,2ndEdition
Chapter6TheRatingAgencies
Chapter23CountryRiskModels
23. ArnauddeServignyandOlivierRenault,MeasuringandManagingCreditRisk,(New
York:McGrawHill,2004).
Chapter2ExternalandInternalRatings
24. SaundersandCornett,FinancialInstitutionsManagement,6thEdition.
Chapter15(excludingAppendix15A)SovereignRisk
25. MichaelOng,InternalCreditRiskModels:CapitalAllocationandPerformance
Measurement(London:RiskBooks,2003).
Chapter4LoanPortfoliosandExpectedLoss
Chapter5UnexpectedLoss
26. PrinciplesforSoundStressTestingPracticesandSupervision(BaselCommitteeon
BankingSupervisionPublication,Jan2009).http://www.bis.org/publ/bcbs147.pdf.

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ReadingsforValuationandRiskModelsAIMS
LindaAllen,JacobBoudoukhandAnthonySaunders,UnderstandingMarket,Creditand
Chapter2QuantifyingVolatilityinVaRModels
Discusshowassetreturndistributionstendtodeviatefromthenormaldistribution.
Explainpotentialreasonsfortheexistenceoffattailsinareturndistributionanddiscussthe
implicationsfattailshaveonanalysisofreturndistributions.
Distinguishbetweenconditionalandunconditionaldistributions.
Discusstheimplicationsregimeswitchinghasonquantifyingvolatility.
ExplainthevariousapproachesforestimatingVaR.
Compareandcontrastparametricapproachesforestimatingconditionalvolatility,
includingthehistoricalstandarddeviationapproach,theRiskMetricsapproachandthe
GARCHapproach,anddiscusstheadvantagesanddisadvantagesofparametricmethods
forvolatilityforecasting.
Compareandcontrasttheuseofhistoricsimulation,multivariatedensityestimation,and
hybridmethodsforvolatilityforecasting.
Explaintheprocessofreturnaggregationinthecontextofvolatilityforecastingmethods.
Explainhowimpliedvolatilitycanbeusedtopredictfuturevolatilityanddiscussits
advantagesanddisadvantages.
Explaintheimplicationsofmeanreversioninreturnsandreturnvolatilityforforecasting
VaRoverlongtimehorizons.
Discusstheeffectsnonsynchronousdatahasonestimatingcorrelationanddescribe
approachesthatmitigatetheimpactofnonsynchronousdataonriskestimates.
Chapter3PuttingVaRtoWork
Explainandgiveexamplesoflinearandnonlinearderivatives.
ExplainhowtocalculateVaRforlinearderivatives.
DescribethedeltanormalapproachtocalculatingVaRfornonlinearderivatives.
Describethelimitationsofthedeltanormalmethod.
ExplainthefullrevaluationmethodforcomputingVaR.
Comparedeltanormalandfullrevaluationapproaches.

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ExplainstructuralMonteCarlo,stresstestingandscenarioanalysismethodsforcomputing
VaR,identifyingstrengthsandweaknessesofeachapproach.
Discusstheimplicationsofcorrelationbreakdownforscenarioanalysis.
Describeworstcasescenarioanalysis.
Chapter5ExtendingtheVaRApproachtoOperationalRisks
Describethefollowingtopdownapproachestomeasuringoperationalrisks:
o Multifactormodels
o Incomebasedmodels
o Expensebasedmodels
o Operatingleveragemodels
o Scenarioanalysismodels
o Riskprofilingmodels
Describethefollowingbottomupapproachestomeasuringoperationalrisk:
o Processapproaches
Causalnetworksandscorecards
Connectivitymodels
Reliabilitymodels
o Actuarialapproaches
Empiricallossdistributions
Parametriclossdistributions
Extremevaluetheory
Compareandcontrasttopdownandbottomupapproachestomeasuringoperationalrisk.
Describewaystohedgeagainstcatastrophicoperationallosses.
Describethecharacteristicsofcatastropheoptionsandcatastrophebonds.
Describevariousmethodsofhedgingoperationalrisksanddiscussthelimitationsof
hedgingoperationalrisk.

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Chapter11BinomialTrees
CalculatethevalueofaEuropeancallorputoptionusingtheonestepandtwostep
binomialmodel.
CalculatethevalueofanAmericancallorputoptionusingatwostepbinomialmodel.
Discusshowthebinomialmodelvalueconvergesastimeperiodsareadded.
Describetheimpactdividendshaveonthebinomialmodel.
Discusshowvolatilityiscapturedinthebinomialmodel.
Chapter13TheBlackScholesMertonModel
Explainthelognormalpropertyofstockprices,thedistributionofratesofreturn,andthe
calculationofexpectedreturn.
Computetherealizedreturnandhistoricalvolatilityofastock.
ListanddescribetheassumptionsunderlyingtheBlackScholesMertonoptionpricing
model.
ComputethevalueofaEuropeanoptionusingtheBlackScholesMertonmodelona
nondividendpayingstock.
Defineimpliedvolatilitiesanddescribehowtocomputeimpliedvolatilitiesfrommarket
pricesofoptionsusingtheBlackScholesMertonmodel.
ExplainhowdividendsaffecttheearlydecisionforAmericancallandputoptions.
ComputethevalueofaEuropeanoptionusingtheBlackScholesMertonmodelona
dividendpayingstock.
Identifythecomplicationsinvolvingthevaluationofwarrants.
Chapter17TheGreekLetters
Discussandassesstherisksassociatedwithnakedandcoveredoptionpositions.
Explainhownakedandcoveredoptionpositionsgenerateastoplosstradingstrategy.

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Definedeltahedgingforanoption,forward,andfuturescontracts.
Defineandcomputedeltaforanoption.
Discussthedynamicaspectsofdeltahedging.
Definethedeltaofaportfolio.
Describehowportfolioinsurancecanbecreatedthroughoptioninstrumentsandstock
indexfutures.
Define,computeanddescribetheta,gamma,vega,andrhoforoptionpositions.
Explainhowtoimplementandmaintainagammaneutralposition.
Discusstherelationshipbetweendelta,theta,andgamma.
Describehowhedgingactivitiestakeplaceinpractice,anddiscusshowscenarioanalysis
canbeusedtoformulateexpectedgainsandlosseswithoptionpositions.
BruceTuckman,FixedIncomeSecurities,2ndEdition(Hoboken,NJ:Wiley&Sons,2002).
Chapter1BondPrices,DiscountFactors,andArbitrage
Describeandcontrastindividualandmarketexpressionsofthetimevalueofmoney.
Definediscountfactoranduseadiscountfunctiontocomputepresentandfuturevalues.
Definethelawofoneprice,supportitusinganarbitrageargument,anddescribehowit
canbeappliedtobondpricing.
DiscussthecomponentsofaU.S.Treasurycouponbond,andcompareandcontrastthe
structuretoTreasurySTRIPS,includingthedifferencebetweenPSTRIPSandCSTRIPS.
Computethepriceofafixedincomesecuritywithcertaincashflowsandcompareitsvalue
tofixedincomesecuritieswithdifferent,butcertain,cashflowcharacteristics.
Identifyarbitrageopportunitiesforfixedincomesecuritieswithcertaincashflows.
Chapter2BondPrices,SpotRates,andForwardRates
Calculateanddescribetheimpactofdifferentcompoundingfrequenciesonabondsvalue.
Calculateholdingperiodreturnsunderdifferentcompoundingassumptions.
Derivespotratesfromdiscountfactors.
Calculatethevalueofabondusingspotrates.
Defineandinterprettheforwardrate,andcomputeforwardratesgivenspotrates.

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Discusstheimpactofmaturityonthepriceofabondandthereturnsgeneratedbybonds.
RecognizethedifferencesyieldcurvecalculationsyieldwhenusingPStripsandCstrips.
Definerichandcheapratesinthecontextofyieldcurves.
Chapter3YieldtoMaturity
Define,interpret,andapplyabondsyieldtomaturity(YTM)tobondpricing.
Computeabond'sYTMgivenabondstructureandprice.
EstablishtherelationshipbetweenspotratesandYTM.
Understandtherelationshipbetweencouponrate,YTM,andbondprices.
Defineanddescribe:
o Discountbond
o Premiumbond
o Couponeffect
o Pulltopar
Calculatethepriceofanannuity.
Calculatetherealizedreturnonabond.
Definereinvestmentrisk.
Chapter5OneFactorMeasuresofPriceSensitivity
Describefourwaysinwhichmeasuresoffixedincomepricesensitivityareused.
Describeaninterestratefactorandnamecommonexamplesofinterestratefactors.
DefineandcomputetheDV01ofafixedincomesecuritygivenachangeinyieldandthe
resultingchangeinprice.
ExplainthelimitationsofDV01asameasureofpricesensitivity.
CalculatethefaceamountofbondsrequiredtohedgeanoptionpositiongiventheDV01of
each.
Define,compute,andinterprettheeffectivedurationofafixedincomesecuritygivena
changeinyieldandtheresultingchangeinprice.
ContrastDV01andeffectivedurationasmeasuresofpricesensitivity.

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Define,compute,andinterprettheconvexityofafixedincomesecuritygivenachangein
yieldandtheresultingchangeinprice.
Calculatetheeffectivedurationandconvexityofaportfoliooffixedincomesecurity.
Explaintheeffectnegativeconvexityhasonthehedgingoffixedincomesecurities.
Chapter14StressTesting
Describethepurposesofstresstestingandtheprocessofimplementingastresstesting
scenario.
Explainthedifferenceineventdrivenscenariosandportfoliodrivenscenarios.
Identifycommononevariablesensitivitytests.
DescribetheStandardPortfolioAnalysisofRisk(SPAN)systemformeasuringportfolio
risk.
Discussthedrawbackstoscenarioanalysis.
Explainthedifferencebetweenunidimensionalandmultidimensionalscenarios.
Compareandcontrastvariousapproachestoscenarioanalysis.
Defineanddistinguishbetweensensitivityanalysisandstresstestingmodelparameters.
Explainhowtheresultsofastresstestcanbeusedtoimproveourriskanalysisandrisk
managementsystems.
Chapter6TheRatingAgencies
Describetheroleofratingagenciesinthefinancialmarkets.
Describesomeofthemarketandregulatoryforcesthathaveplayedaroleinthegrowthof
theratingagencies.
Describewhataratingscaleis,whatcreditoutlooksare,andthedifferencebetween
solicitedandunsolicitedratings.
o IdentifyStandardandPoorsandMoodysratingscalesanddistinguishbetween
investmentandnoninvestmentgraderatings.

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Describethedifferencebetweenanissuerpayandasubscriberpaymodelandwhat
concernstheissuerpaymodelengenders.
Describeandcontrasttheprocessforratingindustrialandsovereigndebtanddescribehow
thedistributionsoftheseratingsmaydiffer.
Discusstheratingsperformanceforcorporatebonds.
Describetherelationshipbetweentheratingagenciesandregulatorsandidentifykey
regulationsthatimpacttheratingagenciesandtheuseofratingsinthemarket
Discusssomeofthetrendsandissuesemergingfromthecurrentcreditcrisisrelevantto
theratingagenciesandtheuseofratingsinthemarket.
Chapter23CountryRiskModels
Defineanddifferentiatebetweencountryriskandtransferriskanddiscusssomeofthe
factorsthatmightleadtoeach.
Defineanddescribecontagion.
Identifyanddescribesomeofthemajorriskfactorsthatarerelevantforsovereignrisk
analysis.
Compareandcontrastcorporateandsovereignhistoricaldefaultratepatterns
Describehowcountryriskratingsareusedinlendingandinvestmentdecisions.
Describesomeofthechallengesincountryriskanalysis.
ArnauddeServignyandOlivierRenault,MeasuringandManagingCreditRisk,(NewYork:
McGrawHill,2004).
Chapter2ExternalandInternalRatings
Describeexternalratingscales,theratingprocess,andthelinkbetweenratingsand
default.
Discusstheimpactoftimehorizon,economiccycle,industry,andgeographyonexternal
ratings.

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Reviewtheresultsandexplanationoftheimpactofratingschangesonbondandstock
prices.
Explainandcomparethethroughthecycleandatthepointapproachestoscorea
company.
Describetheprocessforandissueswithbuilding,calibratingandbacktestinganinternal
ratingsystem.
Defineandexplainaratingstransitionmatrixanditselements.
Identifyanddescribethebiasesthatmayaffectaratingsystem.
Chapter15(excludingAppendix15A)SovereignRisk
Explainthedifferencesbetweencreditriskandsovereignrisk
Comparedebtrepudiationversusdebtrescheduling
Explaintheroleofthefollowingvariablesincountryriskevaluation
o Debtserviceratio
o Importratio
o Investmentratio
o Varianceofexportratio
o Domesticmoneysupplygrowth
Explainthecommonproblemswithstatisticalcountryriskevaluationmodels
MichaelOng,InternalCreditRiskModels:CapitalAllocationandPerformanceMeasurement
(London:RiskBooks,2003).
Chapter4LoanPortfoliosandExpectedLoss
Describetheobjectivesofmeasuringcreditriskforabanksloanportfolio.
Define,calculateandinterprettheexpectedlossforanindividualcreditinstrument.
Distinguishbetweenloanandbondportfolios.
Explainhowacreditdowngradeorloandefaultaffectsthereturnofaloan.
Distinguishbetweenexpectedandunexpectedloss.

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Defineexposures,adjustedexposures,commitments,covenants,andoutstandings.
o Explainhowdrawnandundrawnportionsofacommitmentaffectexposure.
o Explainhowcovenantsimpactexposures.
Defineusagegivendefaultandhowitimpactsexpectedandunexpectedloss.
o Explaincreditoptionality.
Describetheprocessofparameterizingcreditriskmodelsanditschallenges.
Chapter5UnexpectedLoss
Explaintheobjectiveforquantifyingbothexpectedandunexpectedloss.
Describefactorscontributingtoexpectedandunexpectedloss.
Define,calculateandinterprettheunexpectedlossofanasset.
Explaintherelationshipbetweeneconomiccapital,expectedlossandunexpectedloss.
PrinciplesforSoundStressTestingPracticesandSupervision(BaselCommitteeonBanking
SupervisionPublication,Jan2009).http://www.bis.org/publ/bcbs147.pdf.
Describetherationalefortheuseofstresstestingasariskmanagementtool.
Describeweaknessesidentifiedandrecommendationsforimprovementin:
o Theuseofstresstestingandintegrationinriskgovernance
o Stresstestingmethodologies
o Stresstestingscenarios
o Stresstestinghandlingofthefollowingspecificrisks:
Risksarisingfromtheuseofcomplexstructuredproducts
Basisrisk
Wrongwayrisk
Pipelinerisk
Contingentrisk
Fundingrisk

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Page41of86
MarketRiskMeasurementandManagement
LevelIIExamWeight:20%,FullExamWeight:10%
Volatilitysmilesandvolatilitytermstructures
Exoticoptions
Durationandconvexityoffixedincomesecurities
Termstructuremodels
BacktestingVaR
Mappingfinancialinstrumentstoriskfactors
Expectedshortfallandcoherentriskmeasures
Extremevaluetheory
Copulasandtaildependence
Mortgagesandmortgagebackedsecurities
o Underwritingmortgages
o Prepaymentmodels
o Risksinmortgagesandmortgagebackedsecurities
o Valuationofmortgagebackedsecurities
ReadingsforMarketRiskMeasurementandManagement
Chapter18VolatilitySmiles
Chapter24ExoticOptions
28. Tuckman,FixedIncomeSecurities,2ndEdition.
Chapter6MeasuresofPriceSensitivityBasedonParallelYieldShifts
Chapter7KeyRateandBucketExposures
Chapter9TheScienceofTermStructureModels
Chapter21MortgageBackedSecurities
Chapter6BacktestingVaR
Chapter11VaRMapping
30. KevinDowd,MeasuringMarketRisk,2ndEdition(WestSussex,England:Wiley,2005).
Chapter2MeasuresofFinancialRisk
Chapter5AppendixModelingDependence:CorrelationsandCopulas
Chapter7ParametricApproaches(II):ExtremeValue
31. FrankFabozzi,HandbookofMortgageBackedSecurities6thedition(NewYork:Mcgraw
Hill,2006).
Chapter1AnOverviewofMortgagesandtheMortgageMarket
Chapter31ValuationofMortgageBackedSecurities

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ReadingsforMarketRiskMeasurementandManagementAIMS
Chapter18VolatilitySmiles
Definevolatilitysmileandvolatilityskew.
Explainhowputcallparityindicatesthattheimpliedvolatilityusedtopricecalloptionsis
thesameusedtopriceputoptions.
Relatetheshapeofthevolatilitysmile(orskew)totheshapeoftheimplieddistributionof
theunderlyingassetpriceandtothepricingofoptionsontheunderlyingasset.
Explainwhyforeignexchangeratesarenotnecessarilylognormallydistributedandthe
implicationsthiscanhaveonoptionpricesandimpliedvolatility.
Discussthevolatilitysmileforequityoptionsandgivepossibleexplanationsforitsshape.
Describealternativewaysofcharacterizingthevolatilitysmile.
Describevolatilitytermstructuresandvolatilitysurfacesandhowtheymaybeusedtoprice
options.
ExplaintheimpactofthevolatilitysmileonthecalculationoftheGreeks.
Explaintheimpactofassetpricejumpsonvolatilitysmiles.
Chapter24ExoticOptions
Defineandcontrastexoticderivativesandplainvanilladerivatives.
Describesomeofthefactorsthatdrivethedevelopmentofexoticproducts.
Explainhowanyderivativecanbeconvertedintoazerocostproduct.
ListanddescribehowvariousoptioncharacteristicscantransformstandardAmerican
optionsintononstandardAmericanoptions.
Listanddescribethecharacteristicsandpayoffstructureof:
o Forwardstartoptions
o Compoundoptions
o Chooserandbarrieroptions
o Binaryoptions
o Lookbackoptions
o Shoutoptions

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o Asianoptions
o Exchangeoptions
o Rainbowoptions
o Basketoptions
Describeandcontrastvolatilityandvarianceswaps.
Explainthebasicpremiseofstaticoptionreplicationandhowitcanbeappliedtohedging
exoticoptions.
Chapter6MeasuresofPriceSensitivityBasedonParallelYieldShifts
Describeadvantages,disadvantages,andlimitationsoftheuseofpricesensitivitiesbased
onparallelshiftsoftheyieldcurve.
DefineandcalculateyieldbasedDV01,modifiedduration,andMacaulayduration.
CalculateanddescribetheMacaulaydurationofzerocouponbonds,parbonds,and
perpetuities.
Explainhowcouponrate,maturity,andyieldimpactthedurationandDV01ofafixed
incomesecurity.
DefineDV01intermsofMacaulaydurationandusethisdefinitiontoexplainand
differentiatebetweenthedurationeffectandthepriceeffect.
Defineyieldbasedconvexityandexplainhowyieldbasedconvexitychangesforchangesin
maturity.
Explainthedifferencebetweenabarbellandabulletportfolioandanalyzetheimpact
convexitymayhaveonboth.
Chapter7KeyRateandBucketExposures
Describeandanalyzethemajorweaknessattributabletosinglefactorapproacheswhen
hedgingportfoliosorimplementingassetliabilitytechniques.
Describekeyrateshiftanalysis.

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Define,calculate,andinterpretkeyrate01andkeyrateduration.
Describethekeyrateexposuretechniqueinmultifactorhedgingapplicationsanddiscussits
advantagesanddisadvantages.
Calculatethekeyrateexposuresforagivensecurity,andcomputetheappropriatehedging
positionsgivenaspecifickeyrateexposureprofile.
Discusssomeoftheconsiderationsinchoosingkeyrates.
Discusswhyhedgesbasedonkeyratesonlyapproximateanimmunizedpositioninthe
underlyingassets.
Describetherelationshipbetweenkeyrateandbucketexposures.
Explainthemaindifferencesbetweenthekeyrateshiftandthebucketshiftapproachto
manageinterestraterisks.
Explainhowkeyrateandbucketanalysismaybeappliedinestimatingportfoliovolatility.
Chapter9TheScienceofTermStructureModels
Usingreplicatingportfoliosdevelopanduseanarbitrageargumenttopriceacalloptionon
azerocouponsecurity.Inaddition:
o Explainwhytheoptioncannotbeproperlypricedusingexpecteddiscounted
values.
o Explaintheroleofupstateanddownstateprobabilitiesintheoptionvaluation.
Defineriskneutralpricingandexplainhowitisusedinoptionpricing.
Relatethedifferencebetweentrueandriskneutralprobabilitiestointerestratedrift.
Explainhowtheprinciplesofarbitragepricingofderivativesonfixedincomesecuritiescan
beextendedovermultipleperiods.
Describetherationalebehindtheuseofnonrecombiningtreesinoptionpricing.
CalculatethevalueofaconstantmaturityTreasureswap,givenaninterestratetreeand
theriskneutralprobabilities.
Discusstheadvantagesanddisadvantagesofreducingthesizeofthetimestepsonthe
pricingofderivativesonfixedincomesecurities.
ExplainwhytheBlackScholesMertonmodeltovalueequityderivativesisnotappropriate
tovaluederivativesonfixedincomesecurities.
Describetheimpactofembeddedoptionsonthevalueoffixedincomesecurities.

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Chapter21MortgageBackedSecurities
Withrespecttomortgagebackedsecurities,define:mortgage,primarymarket,secondary
market,passthrough.
Calculateinterestandprincipalpaymentsforalevelpaymentmortgage.
Defineahomeownersprepaymentoptionandrelateittoabondscalloption.
Describetheimpactofinterestratechangesonthevalueoftheprepaymentoptionand
discussnoninterestratefactorsthatmaytriggermortgageprepayments.
Defineanddescribeinthecontextofmortgages:currentcouponrate,dueonsale,lockin
effect,points,mediaeffect,burnouteffect.
Describereasonswhyactualmortgageprepaymentsbehaviormaybesuboptimalfroma
financialvaluationperspective.
Discussthemainfeaturesaswellastheadvantagesanddisadvantagesofusingstaticcash
flow,implied,andprepaymentmodelsinthepricingofmortgagebackedsecurities.
Describethemajorcomponentsofprepaymentmodelsandhoweachvariableimpacts
prepayments.
Explainpathdependenceandpathindependenceasitrelatestothevaluationofmortgage
backedsecurities.
DescribehowMonteCarlosimulationcanbeusedtoaddressissuesofpathdependence.
DiscusstheadvantagesanddisadvantagesofMonteCarlosimulationforvaluingoptions.
DiscussthecalculationofOAS(optionadjustedspread)whenusingMonteCarlo
simulationsformortgagebackedsecuritypricing.
Comparetheimpactofinterestratechangesonanonrepayablemortgageandamortgage
passthroughsecurity.
DescribethemajorfeaturesofCMOs(collateralizedmortgageobligations),PAC(planned
amortizationclass)bonds,andIO(interestonly)andPO(principalonly)strips.
DiscusstheimpactofinterestratesandprepaymentsondifferentportionsofCMOs,IOand
POstrips.
PhilippeJorion,ValueatRisk:TheNewBenchmarkforManagingFinancialRisk,3 rdEdition
Chapter6BacktestingVaR
DefinebacktestingandexceptionsandexplaintheimportanceofbacktestingVaRmodels.
ExplainthesignificantdifficultiesinbacktestingaVaRmodel.

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Explaintheframeworkofbacktestingmodelswiththeuseofexceptionsorfailurerates.
DefineandidentifytypeIandtypeIIerrors.
Explainwhyitisnecessarytoconsiderconditionalcoverageinthebacktestingframework.
DescribetheBaselrulesforbacktesting.
Chapter11VaRMapping
ExplaintheprinciplesunderlyingVaRMapping,listanddescribethemappingprocess.
Explainhowthemappingprocesscapturesgeneralandspecificrisks.
Listanddescribethethreemethodsofmappingportfoliosoffixedincomesecurities.
Mapafixedincomeportfoliointopositionsofstandardinstruments.
Discusshowmappingofriskfactorscansupportstresstesting.
ExplainhowVaRcanbeusedasaperformancebenchmark.
Describethemethodofmappingforwards,commodityforwards,forwardrateagreements,
andinterestrateswaps.
Describethemethodofmappingoptions.
KevinDowd,MeasuringMarketRisk,2ndEdition(WestSussex,England:Wiley,2005).
Chapter2MeasuresofFinancialRisk
Describethemeanvarianceframeworkandtheefficientfrontier.
Explainthelimitationsofthemeanvarianceframeworkwithrespecttoassumptionsabout
thereturndistributions.
DefinetheValueatrisk(VaR)measureofrisk,andexplainthelimitationsofVaRwith
respecttoassumptionsaboutreturndistributions.
Definethepropertiesofacoherentriskmeasureandexplainthemeaningofeachproperty.
Explainandcalculateexpectedshortfall(ES),andcompareandcontrastVaRandES.
ExplainhowVaRandESarespecialcasesofspectralmeasures.

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Describehowtheresultsofscenarioanalysiscanbeinterpretedascoherentriskmeasures.
Describeandinterprettheimportanceofskewnessandkurtosisinriskmeasurement.
Chapter5AppendixModelingDependence:CorrelationsandCopulas
Explainthedrawbacksofusingcorrelationtomeasuredependence.
Describehowcopulasprovideanalternativemeasureofdependence.
Identifybasicexamplesofcopulas.
Explainhowtaildependencecanbeinvestigatedusingcopulas.
Chapter7ParametricApproaches(II):ExtremeValue
Explaintheimportanceandchallengesofextremevaluesforriskmanagement.
Describeextremevaluetheory(EVT)anditsuseinriskmanagement.
Describethepeaksoverthreshold(POT)approach.
ComparegeneralizedextremevalueandPOT.
DescribetheparametersofageneralizedPareto(GP)distribution.
ExplainthetradeoffsinsettingthethresholdlevelwhenapplyingtheGPdistribution.
ComputeVaRandexpectedshortfallusingthePOTapproach,givenvariousparameter
values.
ExplaintheimportanceofmultivariateEVTforriskmanagement.

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FrankFabozzi,HandbookofMortgageBackedSecurities6thedition(NewYork:McgrawHill,
2006).
Chapter1AnOverviewofMortgagesandtheMortgageMarket
Defineandexplainthekeycharacteristicsofamortgagecontract,including:
o Lienstatus
o Originalloanterm
o Interestratetype
o Creditguarantees
o Loanbalance
o Borrowertype
Describeandcalculatethemortgagepaymentfactor.
Identifygraphicallytheeffectloantermandinterestrateshaveonloanbalanceovertime.
Identifyandexplaintherolesofmajorplayersinthemortgageindustry.
Describetheloanunderwritingprocess,andexplainimportantmeasuresof
creditworthinessincluding:
o Creditscore
o Loantovalueratio
o Incomeratios
o Documentation
Describethevariousriskassociatedwithmortgagesandmortgagebackedsecuritiesand
explainriskbasedpricing.
FrankFabozzi,HandbookofMortgageBackedSecurities6thedition(NewYork:McgrawHill,
2006).
Chapter31ValuationofMortgageBackedSecurities
Describehowstaticvaluationofmortgagebackedsecuritiesdiffersfromdynamic
valuation.
Explaintheoptionadjustedspread(OAS)approachtovaluingmortgagebackedsecurities.
InterprettheOAS.
Defineoptionadjustedduration,optionadjustedconvexityandsimulatedaveragelife.
DescribetheOASapproachtovaluedifferenttypesofCMOsandhowtointerpretthe
resultsrelativetothoseprovidedbystaticanalysis.

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CreditRiskMeasurementandManagement
Subprimemortgagesandsubprimesecuritization
CounterpartyriskandOTCderivatives
Creditderivatives,creditdefaultswapsandcreditlinkednotes
Structuredfinance,securitization,tranchingandsubordination
CollateralizedDebtObligations(pricingandriskmanagement)
Probabilityofdefault,lossgivendefaultandrecoveryrates
Creditscoring
Creditspreads
Expectedandunexpectedloss
ContingentclaimapproachandtheKMVModel
Defaultanddefaulttimecorrelations
Portfoliocreditrisk
Creditriskmanagementmodels
Riskmitigationtechniques(includingnetting,ratingtriggers,andcollateral)
ReadingsforCreditRiskMeasurementandManagement
32. AdamAshcroftandTilSchuermann,UnderstandingtheSecuritizationofSubprime
MortgageCredit,FederalReserveBankofNewYorkStaffReports,no.318(March2008).
Copyofarticleisavailableatwww.GARPDigitalLibrary.org.
33. EduardoCanabarroandDarrellDuffie,MeasuringandMarkingCounterpartyRiskin
ALMofFinancialInstitutions,ed.LeoTilman(London:EuromoneyInstitutional
Investor,2003).Copyofarticleisavailableatwww.GARPDigitalLibrary.org.
34. ChristopherCulp,StructuredFinanceandInsurance:TheArtofManagingCapitaland
Risk(Hoboken,NJ:Wiley&Sons,2006).
Chapter12CreditDerivativesandCreditLinkedNotes
Chapter13TheStructuringProcess
Chapter16Securitization
Chapter17CashCollateralizedDebtObligations
Chapter18SyntheticCollateralizedDebtObligations
35. Caouette,Altman,NarayananandNimmo,ManagingCreditRisk,2ndEdition.
Chapter18IntroductiontoPortfolioApproaches
Chapter19EconomicCapitalandCapitalAllocation
Chapter20ApplicationofPortfolioApproaches
36. deServignyandRenault,MeasuringandManagingCreditRisk.
Chapter3DefaultRisk:QuantitativeMethodologies
Chapter4LossGivenDefault

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Chapter22CreditRisk
Chapter23CreditDerivatives
38. Allen,BoudoukhandSaunders,UnderstandingMarket,CreditandOperationalRisk
Chapter4ExtendingtheVaRApproachtoNontradableLoans
39. Stulz,RiskManagement&Derivatives.
Chapter18CreditRisksandCreditDerivatives
40. Ong,InternalCreditRiskModels:CapitalAllocationandPerformanceMeasurement.
Chapter6PortfolioEffects:RiskContributionsandUnexpectedLosses
41. Studiesoncreditriskconcentration:anoverviewoftheissuesandasynopsisoftheresults
fromtheResearchTaskForceproject(BaselCommitteeonBankingSupervision
Publication,November2006).Copyofthearticleisavailableat
www.GARPDigitalLibrary.org.

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ReadingsforCreditRiskMeasurementandManagementAIMS
AdamAshcroftandTilSchuermann,UnderstandingtheSecuritizationofSubprimeMortgage
Credit,FederalReserveBankofNewYorkStaffReports,no.318(March2008).Copyofarticleis
availableatwww.GARPDigitalLibrary.org.
ExplainthesubprimemortgagecreditsecuritizationprocessintheUnitedStates.
Listanddiscusskeyfrictionsinthesubprimemortgagesecuritization.
o Assesstherelativecontributionofeachfactortothesubprimemortgageproblems.
Discussthecharacteristicsofthesubprimemortgagemarket,includingthe
creditworthinessofthetypicalborrower,thefeaturesandperformanceofasubprimeloan.
Explainthestructureofthesecuritizationprocessofthesubprimemortgageloans.
Discussthecreditratingsprocessinsubprimemortgagebackedsecurities.
Discusstheimplicationscreditratingshadontheemergenceofsubprimerelatedmortgage
backedsecurities.
Analyzetherelationshipbetweenthecreditratingscycleandthehousingcycle.
Discusstheimplicationsthesubprimemortgagemeltdownhasonthemanagementof
portfolios.
Discussthedifferencebetweenpredatorylendingandborrowing.
EduardoCanabarroandDarrellDuffie,MeasuringandMarkingCounterpartyRiskinALMof
FinancialInstitutions,ed.LeoTilman(London:EuromoneyInstitutionalInvestor,2003).Copyof
articleisavailableatwww.GARPDigitalLibrary.org.
Definetermsrelatedtocounterpartyrisk.
IdentifyandexplainthestepsofusingaMonteCarlosimulationenginetomodelpotential
futureexposuretoacounterparty,anddiscussconsiderationsforapplyingsuchamodelto
variousmarketinstruments.
Describehowacreditvaluationadjustmentismadetoanoverthecounterderivatives
portfolio.
Defineariskneutralmeanlossrate.
Describetheproceduresforcomputingthemarketvalueofcreditriskwhenoneorboth
counterpartiesinthederivativestransactionhascreditexposure.

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ChristopherCulp,StructuredFinanceandInsurance:TheArtofManagingCapitalandRisk
(Hoboken,NJ:Wiley&Sons,2006).
Chapter12CreditDerivativesandCreditLinkedNotes
Describethemechanicsofasinglenamedcreditdefaultswap(CDS),anddiscussparticular
aspectsofCDSssuchassettlementmethods,paymentstotheprotectionseller,reference
name,ownership,recoveryrights,triggerevents,accruedinterestandliquidity.
Describeportfoliocreditdefaultswaps,includingbasketCDS,NthtoDefaultCDS,Senior
andSubordinatedBasketCDS.
DiscussthecompositionanduseofiTraxxCDSindices.
Explainthemechanicsofassetdefaultswaps,equitydefaultswaps,totalreturnswapsand
creditlinkednotes.
Chapter13TheStructuringProcess
Describetheobjectivesofstructuredfinanceandexplainthemotivationsforasset
securitization.
Describetheprocessandbenefitsofringfencingassets.
Discusstheroleofstructuredfinanceinventurecapitalformation,risktransfer,agencycost
reduction,andsatisfactionofspecificinvestordemands.
Explainthestepsinvolvedandthevariousplayersinastructuringprocess.
Defineanddescribetheprocessoftranchingandsubordination,anddiscusstheroleofloss
distributionsandcreditratings.
Chapter16Securitization
Definesecuritizationanddescribetheprocessandtheroletheparticipantsplay.
Analyzethedifferencesinthemechanicsofissuingsecuritizedproductsusingatrustor
specialpurposeentity.

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ListanddiscussthefourguidingprinciplesofFAS140andtheconditionsnecessarytobea
qualifiedspecialpurposevehicle.
DescribehowatypicalEnrontransactionviolatedFAS140andexplaintheantiEnronrule,
FIN46R.
Discussthevarioustypesofinternalandexternalcreditenhancementsandinterpreta
simplenumericalexample.
Explaintheimpactliquidity,interestrateandcurrencyriskhasonasecuritizedstructure,
andlistsecuritiesthathedgetheseexposures.
Discussthesecuritizationprocessformortgagebackedsecuritiesandassetbacked
commercialpaper.
Chapter17CashCollateralizedDebtObligations
Definecollateralizeddebtobligations(CDO)anddiscussthemotivationsofCDObuyers
andsellers.
DiscussthetypesofcollateralusedinCDOs.
DefineandexplainthestructureofbalancesheetCDOsandarbitrageCDOs.
DescribethebenefitsofandmotivationsforbalancesheetCDOsandarbitrageCDOs.
DiscusscashflowversusmarketvalueCDOs.
DiscussstaticversusmanagedportfoliosofCDOs.
Chapter18SyntheticCollateralizedDebtObligations
DefineasyntheticCDO.
DescribefullyfundedandpartiallyfundedsyntheticCDOs.
DescribetheregulatorycapitalconsiderationsforfullyfundedandpartiallyfundedCDOs.
DescribethebenefitsofsyntheticCDOs.

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DescribesecondgenerationsyntheticCDOstructuresincludingsingletranchesynthetic
CDOs,resecuritizationsandCDOsquared,singletrancheCDOsquaredandmasterCDO.
CompareandcontrastsyntheticCDOsandinsurance,anddiscussregulatorydifferences.
Chapter18IntroductiontoPortfolioApproaches
Explainthedifficultiesinapplyingthestandardmeanvarianceportfoliotheorytoafixed
incomecreditportfolio.
Explaintheconceptsofexpectedandunexpectedloss.
Discusstheuseofoptimizationproblemtooptimizecapitalusage.
o Describetheformulationofaportfoliooptimizationproblemtominimize
unexpectedlosses.
Chapter19EconomicCapitalandCapitalAllocation
Defineeconomiccapital.
Explainthecostplusprofitpricingapproachforcreditrisk,anddiscussthestrengthsand
weaknessesofthisapproach.
Define,compareandcontrastcommonriskadjustedperformancemeasures:
o Returnonassets(ROA)
o Returnonequity(ROE)
o VaR
o Marktomarket
o Marktomodel
o Returnonriskadjustedassets(RORAA)
o Riskadjustedreturnonassets(RAROC)
Explainthedifferencebetweeneconomiccapitalandregulatorycapital

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Chapter20ApplicationofPortfolioApproaches
Discusshowtheconceptsofdiversificationandriskneutralpricinghavebeenappliedto
creditrisk.
IdentifythebasiccomponentsoftheCreditMetricsmethodology.
Computespecifictransitionprobabilitiesfromatransitionmatrix.
Explainhowtheforwardpricedistributionforabondorloaniscomputed.
ExplaintheCreditMetricsprocedureforestimatingjointmigrationanddefault
probabilities,anddiscusstheunderlyingassumptions.
Compareandcontrastdifferentapplicationsofcreditportfolioapproachesincluding
MoodysKMVPortfolioManager,CreditMetrics,CreditRisk+,theMcKinsy/WilsonModel,
KamakurasPortfolioManagerandAltmansoptimizationapproach.
McGrawHill,2004).
Chapter3DefaultRisk:QuantitativeMethodologies
DescribetheMertonmodelforcorporatesecuritypricing,includingitsassumptions,
strengthsandweaknesses.
o IllustrateandinterpretsecurityholderpayoffsbasedontheMertonmodel.
o UsingtheMertonmodel,calculatethevalueofafirm'sdebtandequityandthe
volatilityoffirmvalue.
o Discusstheresultsandpracticalimplicationsofempiricalstudiesthatusethe
Mertonmodeltovaluedebt
DescribetheMoodysKMVCreditMonitorModeltoestimateprobabilityofdefaultusing
equityprices.
o ComparetheMoodysKMV'sequitymodelwiththeMertonmodel.
Discusscreditscoringmodelsandtherequisitequalitiesofaccuracy,parsimony,non
triviality,feasibility,transparencyandinterpretability.
Defineanddifferentiateamongthefollowingquantitativemethodologiesforcredit
analysisandscoring:
o Lineardiscriminantanalysis
o Parametricdiscrimination
o Knearestneighborapproach
o Supportvectormachines

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Defineanddifferentiatethefollowingdecisionrules:
o Minimumerror
o Minimumrisk
o NeymanPearson
o Minimax
Discusstheproblemsandtradeoffsbetweenclassificationandpredictionmodelsof
performance.
Discusstheimportantfactorsinthechoiceofaparticularclassofmodel.
McGrawHill,2004).
Chapter4LossGivenDefault
Definelossgivendefault.
Identifyanddiscussfourfactorsthatmayleadtosuboptimalloanrecoveryrates.
Identifyanddiscusstheimpactofvariousfeaturesonrecoveryratesoftradedbonds,
including:
o Seniority
o Industrialsector
o Businesscycle
o Collateral
o Jurisdiction
Describetheimportanceofmodelinguncertainrecoveryrates.
Discussthebetadistributionapproach,kernelmodeling,andconditionalrecovery
modelingtoestimateoftherecoveryfunction.
Chapter22CreditRisk
IdentifyratingsofMoodys,Standard&PoorsandFitchthatcorrespondtoinvestmentand
noninvestmentgradesecurities.

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Discussthehistoricalrelationshipbetweendefaultratesandrecoveryrates.
Estimatetheprobabilityofdefaultforacompanyfromitsbondprice.
Compareriskneutralversusrealworlddefaultprobabilities.
DescribeandapplyMertonsapproachtoestimatingdefaultprobabilitiesusingequity
prices.
Describecounterpartycreditriskinderivativesmarketsandexplainhowitaffects
valuation.
Describethefollowingcreditmitigationtechniques:
o Netting
o Collateralization
o Downgradetriggers
DiscusstheGaussiancopulamodelfortimetodefault.
Chapter23CreditDerivatives
Describeacreditdefaultswap(CDS),andexplainthefunctionsandusesofaCDS.
ComputethevalueofaCDS,givenunconditionaldefaultprobabilities,survival
probabilities,marketyields,recoveryratesandcashflows.
DiscussthepotentialasymmetricinformationproblemwithCDSs.
DiscusstheimplicationsofmarkingtomarketCDSs.
Discussconcernswithdefaultprobabilityandrecoveryrateestimates.
Identifyandexplainthefunctionsandusesof
o BasketCDSs.
o Totalreturnswaps.
Describeassetbackedsecuritiesincludingcollateralizeddebtobligations(CDOs)and
explain
o Tranches
o Roleofcreditratings
o SyntheticCDOs
o RoleofcorrelationinvaluingCDOs
DiscusstheuseoftheGaussianCopulaModeltomeasurethetimetodefault.

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Chapter4ExtendingtheVaRApproachtoNontradableLoans
DescribethefollowingtraditionalapproachestomeasuringCreditRisk
o Expertsystems
o Ratingsystems
o Creditscoringmodels
Comparestructuralandreducedformmodelsforestimatingdefaultprobabilities.
DescribeMertonsoptiontheoreticmodeltoestimatedefaultprobabilities.
Explaintherelationshipbetweentheyieldspreadandtheprobabilityofdefault,and
calculatedefaultprobabilityofadebtsecurityusingthecreditspread.
DescribetheCreditMetricsandAlgorithmicsproprietaryVaRmodelsforcreditrisk
measurement.
Chapter18CreditRisksandCreditDerivatives
Explaintherelationshipofcreditspreads,timetomaturity,andinterestrates.
Explainthedifferencesbetweenvaluingseniorandsubordinateddebtusingacontingent
claimapproach.
Explain,fromacontingentclaimperspective,theimpactstochasticinterestrateshaveon
thevaluationofriskybonds,equity,andtheriskofdefault.
Assessthecreditrisksofderivatives.
DiscussthefundamentaldifferencesbetweenCreditRisk+,CreditMetricsandKMVcredit
portfoliomodels.
Defineanddescribeacreditderivative,creditdefaultswap,andtotalreturnswap.
Defineavulnerableoption,andexplainhowcreditriskcanbeincorporatedindetermining
theoption'svalue.
Discusshowtoaccountforcreditriskexposureinvaluingaswap.

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Chapter6PortfolioEffects:RiskContributionsandUnexpectedLosses
Explaintherelationshipbetweenexpectedandunexpectedlossesforanindividualasset
andaportfolioofasset.
Compareexpectedlossandunexpectedlossriskmeasures.
Explainhowtherecoveryrate,creditquality,andexpecteddefaultfrequencyaffectthe
expectedandunexpectedloss.
Discussandcomparedifferentapproachestomitigatematurityeffects.
Define,calculateandinterpretexpectedandunexpectedportfolioloss.
Define,calculateandinterpretriskcontributionswithinaportfolio.
Explainthedifferentimpactdiversifiableandundiversifiableriskhasonportfolioexpected
andunexpectedloss,respectively.
Define,calculateandinterprettheeffectcorrelationhasontheexpectedandunexpected
lossesinaportfolio.
Studiesoncreditriskconcentration:anoverviewoftheissuesandasynopsisoftheresultsfrom
theResearchTaskForceproject(BaselCommitteeonBankingSupervisionPublication,November
2006).Copyofthearticleisavailableatwww.GARPDigitalLibrary.org.
Defineanddifferentiatebetweensystematicriskandidiosyncraticriskinthecontextofthe
BaselIIIRBmodel.
Describehowconcentrationriskmayariseinacreditportfolio.
DescribekeyassumptionsoftheAsymptoticSingleRiskFactor(ASRF)model.
DescribehowconcentrationriskinacreditportfolioviolatestheassumptionsoftheASRF
modelandwhattheimplicationsofthisare.
Discussimperfectgranularity,itsimpactoneconomiccapital,andproposedadjustments.
Discussthepotentialimpactofsectoralconcentrationoncapitalrequirementswithinthe
BaselIIIRBmodel.
Describecontagionriskinthecontextofcreditportfoliosandsomeofthedifficultiesin
estimatingit.
Describedesirablepropertiesforstresstestsofsectorconcentrationrisk,including:
o Plausibility
o Consistency
o Adaptabilitytotheportfolio

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o Adaptabilitytointernalreportingrequirements
Describeopenissuesrelatedtomodelingconcentrationrisk,particularlythoserelatedto:
o Theadequacyofsectorschemes
o Thedefinitionofabenchmarkforconcentrationriskcorrection
o Datarelatedissues

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OperationalandIntegratedRiskManagement
Definitionofriskcapital
Allocationofriskcapitalacrossthefirm
Firmwideriskmeasurementandmanagement
Correlationsacrossmarket,credit,andoperationalrisk
Evaluatingtheperformanceofriskmanagementsystems
RegulationandtheBaselIIAccord
o Minimumcapitalrequirements
o Creditconcentrationrisk
o Liquidityrisk
o Stresstesting
Implementationandmodelrisk
Liquidityrisk
Economiccapitalandriskaggregation
ReadingsforOperationalandIntegratedRiskManagement
42. MichelCrouhy,DanGalaiandRobertMark,RiskManagement(NewYork:McGrawHill,
2001).
Chapter14CapitalAllocationandPerformanceMeasurement
43. Dowd,MeasuringMarketRisk,2ndEdition.
Chapter14EstimatingLiquidityRisks
Chapter16ModelRisk
44. EllenDavis(editor),OperationalRisk:PracticalApproachestoImplementation(London:
RiskBooks,2005).
Chapter12AligningBaselIIOperationalRiskandSarbanesOxley404Projects,by
NickBoltonandJudsonBerkey.
45. deServignyandRenault,MeasuringandManagingCreditRisk.
Chapter10Regulation
46. AndrewKuritzkes,TilSchuermannandScottM.Weiner.RiskMeasurement,Risk
ManagementandCapitalAdequacyinFinancialConglomerates,inBrookingsWharton
PapersonFinancialServicesRobertE.LitanandRichardHerring(eds)(Brookings
InstitutionalPress,Washington,DC:2003).Copyofarticleisavailableat
47. BrianNoccoandRenStulz,EnterpriseRiskManagement:TheoryandPractice,
JournalofAppliedCorporateFinance18,No.4(2006):820.Copyofthearticleis
availableatwww.GARPDigitalLibrary.org.

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48. FalkoAueandMichaelKalkbrener,2007,LDAatWork,DeutscheBankWhitePaper.
Copyofthearticleisavailableatwww.GARPDigitalLibrary.org.
49. TilSchuermannandAndrewKuritzkes,WhatWeKnow,DontKnowandCantKnow
AboutBankRisk:AViewfromtheTrenches.
http://www.newyorkfed.org/research/economists/schuermann/Kuritzkes_Schuermann_KU
U_23Mar2008.pdf
50. SaundersandCornett,FinancialInstitutionsManagement,6thEdition.
Chapter17LiquidityRisk
ReadingsforBaselReference
CandidatesareexpectedtounderstandtheobjectiveandgeneralstructureoftheBasel
II Accord and general application of the various approaches for calculating minimum
capitalrequirements.Candidatesarenotexpectedtomemorizespecificdetailslikerisk
weightsfordifferentassets.
51. BaselII:InternationalConvergenceofCapitalMeasurementandCapital
Standards:ARevisedFrameworkComprehensiveVersion(BaselCommitteeon
BankingSupervisionPublication,June2006).Copyofthearticleisavailableat
52. AnExplanatoryNoteontheBaselIIIRBRiskWeightFunctions(BaselCommittee
onBankingSupervisionPublication,July2005).Copyofthearticleisavailableat
53. PrinciplesforSoundLiquidityRiskManagementandSupervision(Basel
CommitteeonBankingSupervisionPublication,September2008)
http://www.bis.org/publ/bcbs144.pdf.
54. GuidelinesforComputingCapitalforIncrementalRiskintheTradingBook
ConsultativeDocument(BaselCommitteeonBankingSupervisionPublication,
January2009)http://www.bis.org/publ/bcbs149.pdf.
55. RevisionstotheBaselIImarketriskframeworkConsultativeDocument(Basel
CommitteeonBankingSupervisionPublication,January2009)

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ReadingsforOperationalandIntegratedRiskManagementAIMS
MichelCrouhy,DanGalaiandRobertMark,RiskManagement(NewYork:McGrawHill,2001).
Chapter14CapitalAllocationandPerformanceMeasurement
DescribetheRAROC(riskadjustedreturnoncapital)methodologyanddiscusssomeofthe
potentialbenefitsofitsuse.
Define,compareandcontrasteconomicandregulatorycapital.
ComputeandinterprettheRAROCforaloanorloanportfolio,anduseRAROCtocompare
businessunitperformance.
Explainhowcapitalisattributedtomarket,credit,andoperationalrisk.
Calculatethecapitalchargeformarketriskandcreditrisk.
Explainthedifficultiesencounteredinattributingeconomiccapitaltooperationalrisk
DescribetheLoanEquivalentApproachanduseittocalculateRAROCcapital
ExplainhowthesecondgenerationRAROCapproachesimproveeconomiccapital
allocationdecisions
ComputetheadjustedRAROCforaprojecttodetermineitsviability.
Chapter14EstimatingLiquidityRisks
Defineliquidityriskanddescribefactorsthatinfluenceliquidity.
Discussthebidaskspreadasameasureofliquidity.
Defineexogenousandendogenousliquidity.
DescribethechallengesofestimatingliquidityadjustedVaR(LVaR)
DescribeandcalculateLVaRusingtheConstantSpreadapproachandtheExogenous
Spreadapproach.
DiscussEndogenousPriceapproachestoLVaR,itsmotivationandlimitations.
Discusstherelationshipbetweenliquidationstrategies,transactioncostsandmarketprice
impact.
Describeliquidityatrisk(LaR)anddiscussthefactorsthataffectfuturecashflows.
Explaintheroleofliquidityincrisissituationsanddiscussapproachestoestimatingcrisis
liquidityrisk.

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Chapter16ModelRisk
Definemodelrisk.
Identifyanddiscusssourcesofmodelrisk,including:
o Incorrectmodelspecification
o Incorrectmodelapplication
o Implementationrisk
o Incorrectcalibration
o Programminganddataproblems
Discussthechallengesinvolvedwithquantifyingmodelrisk.
Describemethodsforestimatingmodelrisk,givenanunknowncomponentfromafinancial
model.
Identifywaysriskmanagerscanprotectagainstmodelrisk.
Discusstheroleofseniormanagersinmanagingmodelrisk.
Describeproceduresforvettingandreviewingamodel.
Discussthefunctionofanindependentriskoversight(IRO)unit.
EllenDavis(editor),OperationalRisk:PracticalApproachestoImplementation(London:Risk
Books,2005).
Chapter12AligningBaselIIOperationalRiskandSarbanesOxley404Projects,byNick
BoltonandJudsonBerkey.
Describethefollowingprinciplesfordesigningoperationalriskmanagementframeworkas
outlinedintheSoundPracticesstudypublishedbyBISinFebruary2003:
o Boardapproval
o Independentinternalaudit
o Managementimplementation
o Riskidentificationandassessment
o Riskmonitoringandreporting
o Riskcontrolandmitigation
o Contingencyandcontinuityplanning
o Disclosure
DiscusstherequirementsoninternalcontrolsoverfinancialreportingdefinedinSection
404oftheSarbanesOxley(SOX)Actof2002.

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DiscussrelationshipbetweentheSOXrequirementsonfinancialreportingandtheBasel
requirementsonoperationalriskmanagement,andhowanoperationalriskmanagement
frameworkcanbedesignedtohelpmeetbothsetsofrequirements.
McGrawHill,2004).
Chapter10Regulation
Discusstheprimaryobjectivesofbankingregulation.
Discussthepotentialmoralhazardissuesassociatedwithdepositinsurance.
Describethetoobiggofaildoctrineanditspossibleconsequences.
Discussthemotivation,benefitsandweaknessesoftheoriginal1988BaselAccord.
IdentifytheprimarygoalsoftheBaselCommitteeindevelopingtheBaselIIAccord.
DescribethethreepillarsoftheBaselIIAccord.
Describehowthenecessarycomponentsforcalculatingcapitalrequirementsare
determinedunderthestandardizedandinternalratingsbased(IRB)approaches.
DiscusshowBaselIIaccountsforcreditriskmitigation.
DiscussthetreatmentofsecuritizationunderBaselII.
DiscusscommoncriticismsoftheBaselIIframework,inparticularwithrespecttoissues
withbestpractices,equality,fairness,uniformity,implementationandaccounting
standards.
AndrewKuritzkes,TilSchuermannandScottM.Weiner.RiskMeasurement,Risk
ManagementandCapitalAdequacyinFinancialConglomerates,inBrookingsWhartonPapers
onFinancialServicesRobertE.LitanandRichardHerring(eds)(BrookingsInstitutionalPress,
Washington,DC:2003).Copyofarticleisavailableatwww.GARPDigitalLibrary.org.
Explainthesiloapproachtocapitalregulationforfinancialconglomerates,anddiscussits
limitations.
Describethechallengesaconglomeratecreatesforcapitalmanagement.
Discusshoweconomiccapitalcanserveasacommonstandardforassessingriskina
conglomerate.

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Describethebuildingblockapproachforaggregatingrisksatafinancialconglomerate.
Discussthefactorsthatdeterminethediversificationbenefitsfromriskaggregation.
Discussthediversificationbenefitsachievedateachofthethreelevelsofaggregationfora
financialconglomerate.
Describethehubandspokeorganizationalmodelforriskmanagementofafinancial
conglomerate.
BrianNoccoandRenStulz,EnterpriseRiskManagement:TheoryandPractice,Journalof
AppliedCorporateFinance18,No.4(2006):820.Copyofthearticleisavailableat
Defineenterpriseriskmanagement(ERM).
ExplainhowimplementingERMpracticesandpoliciescreateshareholdervaluebothatthe
macroandthemicrolevel.
DiscusshowanERMprogramcanbeusedtodeterminetherightamountofrisk.
DiscussthedevelopmentandimplementationofanERMsystem.
Discusstherelationshipbetweeneconomicvalueandaccountingperformance.
Describetheroleofandissueswithcorrelationinriskaggregation.
Distinguishbetweenregulatoryandeconomiccapital.
Explaintheuseofeconomiccapitalinthecorporatedecisionmakingprocess.
FalkoAueandMichaelKalkbrener,2007,LDAatWork,DeutscheBankWhitePaper.Copyofthe
articleisavailableatwww.GARPDigitalLibrary.org.
DescribetheLossDistributionApproach(LDA)toquantifyingoperationalrisk.
DiscusssomeofthechallengeswithquantifyingoperationalriskwithanLDA.
Discussthedatasourcesthatcanbeincorporatedinalossdistributionmodel.
Explaintheissueswiththeuseofbothinternalandexternallossdataformodelingloss
distributions.
WithrespecttodevelopinganLDA,describethekeyfactorsandchallengesthatmustbe
consideredin:

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o Derivationoffrequencyandseveritydistributions
o Estimationoftaildistributions
o Modelingcorrelation
o Incorporationofinsurance
Discussthevalidationoflossdistributionapproaches,includingsensitivityanalysis,stress
testing,backtestingandbenchmarking.
TilSchuermannandAndrewKuritzkes,WhatWeKnow,DontKnowandCantKnowAboutBank
Risk:AViewfromtheTrenches.
http://www.newyorkfed.org/research/economists/schuermann/Kuritzkes_Schuermann_KUU_23Ma
r2008.pdf
Defineknownrisk,unknownriskandunknowablerisk,anddiscusstheclassificationof
marketrisk,creditrisk,structuralasset/liabilityrisk,operationalriskandbusinessriskas
known,unknownandunknowable.
ExplainhowtheBaselIIthreepillarframeworkaccommodatesknown,unknownand
unknowablerisks.
Fromtheanalysisprovidedinthepaper,discusstherelativecontributionsofmarketrisk,
creditrisk,structuralasset/liabilityrisk,operationalriskandbusinessrisktobankearnings
volatility.
o Discusstheimplicationsoftheresultsforregulatorypolicyandareasfor
improvementsinriskmanagement.
Chapter17LiquidityRisk
Defineliquidityriskanddescribehowitarisesfromaliabilityperspectiveandfromanasset
perspective.
o Discusshowadepositoryinstitutioncanmanageadrainondepositsusing
purchasedliquiditymanagementandstoredliquiditymanagement.

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Discusshowadepositoryinstitutionmeasuresitsliquiditypositionandidentifywaysitcan
obtainliquidfunds.
o Describetheuseofpeergroupratiocomparisonstomeasureliquidityexposureand
interpretthekeyratiossuchasloanstodepositsandborrowedfundstototal
assets.
o Describetheuseofaliquidityindex.
o Defineandcalculatethefinancinggapandfinancingrequirementofadepository
institution.
Describealiquidityplananditscomponents.
Discussreasonsforabnormaldepositdrainssuchasabankrun.
Explaintheroleofdepositinsuranceandthediscountwindowindecreasingliquidityrisk.
DescribetheroleliquidityplayedinthecollapseofLongTermCapitalManagement.

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ReadingsforBaselReferenceAIMS
BaselII:InternationalConvergenceofCapitalMeasurementandCapitalStandards:ARevised
FrameworkComprehensiveVersion(BaselCommitteeonBankingSupervisionPublication,June
2006).Copyofthearticleisavailableatwww.GARPDigitalLibrary.org.
DescribethekeyelementsofthethreepillarsofBaselII
o Minimumcapitalrequirements
o Supervisoryreview
o Marketdiscipline
DescribethetypeofinstitutionsthattheBaselIIAccordwillbeappliedto.
DescribethemajorriskcategoriescoveredbytheBaselIIAccord.
Describeandcontrastthemajorelementsofthethreeoptionsavailableforthecalculation
ofcreditrisk:
o StandardisedApproach
o FoundationIRBApproach
o AdvancedIRBApproach
Describeandcontrastthemajorelementsofthethreeoptionsavailableforthecalculation
ofoperationalrisk:
o BasicIndicatorApproach
o StandardisedApproach
o AdvancedMeasurementApproach
Describeandcontrastthemajorelementsincludingadescriptionoftheriskscoveredof
thetwooptionsavailableforthecalculationofmarketrisk:
o StandardisedMeasurementMethod
o InternalModelsApproach
DefineinthecontextofBaselIIandcalculatewhereappropriate:
o Capitalratioandcapitalcharge
o Riskweightsandriskweightedassets
o Tier1capitalanditscomponents
o Probabilityofdefault(PD)
o Lossgivendefault(LGD)
o Exposureatdefault(EAD)
o Maturity(M)
o Stresstests
o Concentrationrisk
o Residualrisk

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AnExplanatoryNoteontheBaselIIIRBRiskWeightFunctions(BaselCommitteeonBanking
SupervisionPublication,July2005).Copyofthearticleisavailableatwww.GARPDigitalLibrary.org.
DescribetheregulatoryconcernunderpinningtheIRBapproachadoptedforBaselII.
DistinguishbetweenExpectedLosses(EL)andUnexpectedLosses(UL).
Describetheroleofprovisioning,writeoffs,andbankcapitalinabsorbingELandUL.
DefineValueatRisk(VaR)inthecontextoftheBaselIIIRBapproach,includingthe
confidencelevelusedandthereasoningbehinditsselection.
DefinetheriskparametersuponwhichtheBaselIIIRBapproachisbuilt,including:
o PD(probabilityofdefault)
o EAD(exposureatdefault)
o LGD(lossgivendefault)
o Conditionalexpectedloss
o ConditionalPD
o AveragePD
CalculateEL,inbothcurrencyamountsandasapercentageofEAD(exposureat
default),givenappropriatePD,EAD,andLGD.
DescribeportfolioinvarianceinthecontextofBaselriskweightfunctions,includingits
benefitsanddrawbacks.
DescribetheconceptualfeaturesoftheASRF(AsymptoticSingleRiskFactor)model
andhowitrelatestotheBaselriskweightfunctions,inparticularwithrespectto:
o PD,LGD,ELandUL
o Assetcorrelations
o Maturity
Calculatethetotaleconomicresourcesrequiredtocoverconditionalexpectedlosses
undertheASRFmodel.
Calculateriskweightedassets(RWA),givenanEADandcapitalrequirement(K).
PrinciplesforSoundLiquidityRiskManagementandSupervision(BaselCommitteeonBanking
SupervisionPublication,September2008)http://www.bis.org/publ/bcbs144.pdf.
Differentiatebetweenfundingliquidityriskandmarketliquidityrisk.
Describethebasiccharacteristicsofanappropriateliquidityrisktolerancepolicyand
howitshouldbeestablished.
Describetherolesandresponsibilitiesoftheboardofdirectorsandseniormanagement
indeveloping,implementing,andmanagingaliquidityriskmanagementstrategy.

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Describehowliquiditycosts,benefits,andrisksshouldbeincorporatedintointernal
pricing,performancemeasurement,andnewproductapproval.
Describetheimportantcharacteristicsoftheprocessabankshouldestablishfor
identifying,monitoring,andcontrollingliquidityrisk.
Describetheimportantcharacteristicsofliquiditymeasurementtools,liquidityrisk
limits,earlywarningindicators,monitoringandcontrolsystems.
Describekeycharacteristicsofeffectiveintradayliquidityriskmanagementand
effectivecollateralmanagement.
Describeessentialelementsofliquiditystresstesting.
Describetheroleofpublicdisclosureinsoundliquidityriskmanagement.
GuidelinesforComputingCapitalforIncrementalRiskintheTradingBookConsultative
Document(BaselCommitteeonBankingSupervisionPublication,January2009)
Explaintheregulatoryreasonforincorporatingtheincrementaldefaultriskchargeinto
thetradingbookcapitalcalculation.
DescribeperceivedshortcomingsintheoriginalVaRframeworkformeasuringriskin
thetradingbook.
Definetheriskscapturedbytheincrementalriskchargeandthekeysupervisory
parametersforcomputingtheincrementalriskcharge.
Definethefrequencywithwhichbanksmustcalculatetheincrementalriskcharge.
Calculatethecapitalchargeforincrementalriskasafunctionofrecentincrementrisk
chargemeasures.
RevisionstotheBaselIImarketriskframeworkConsultativeDocument(BaselCommitteeon
BankingSupervisionPublication,January2009)http://www.bis.org/publ/bcbs148.pdf.
DescribetheobjectivesforrevisingtheBaselIImarketriskframework.
Definethecapitalchargeforspecificriskandgeneralmarketrisk.

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Explaintherelationshipregulatorsrequirebetweenmarketriskfactorsusedforpricing
versusthoseusedforcalculatingvalueatriskandtheriskscapturedbythevalueat
riskmodel.
Explainandcalculatethestressedvalueatriskmeasureandthefrequencyatwhichit
mustbecalculated.
Explainandcalculatethemarketriskcapitalrequirement.
Describethequalitativedisclosuresfortheincrementalriskcapitalcharge.
Describethequantitativedisclosuresfortradingportfoliosundertheinternalmodels
approach.
Describetheregulatoryguidanceonprudentvaluationofilliquidpositions.

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RiskManagementandInvestmentManagement
Portfolioconstruction
Riskdecompositionandperformanceattribution
Riskbudgeting
Settingrisklimits
Hedgefundriskmanagement
Riskreturnmetricsspecifictohedgefunds
Risksofspecificstrategies(fixedincomearbitrage,mergerarbitrage,convert
arbitrage,equitylong/shortmarketneutral,macro,distresseddebt,emerging
markets)
Assetilliquidity,valuation,andriskmeasurement
Theuseofleverageandderivativesandtheriskstheycreate
Measuringexposurestoriskfactors(dynamicstrategies,leverage,derivatives,style
drift)
Pensionfundriskmanagement
ReadingsforRiskManagementandInvestmentManagement
56. GrinoldandKahn,ActivePortfolioManagement:AQuantitativeApproachforProducing
SuperiorReturnsandControllingRisk,2ndEdition.
Chapter14PortfolioConstruction
Chapter17PerformanceAnalysis
57. LarsJaeger(ed),TheNewGenerationofRiskManagementforHedgeFundsandPrivate
EquityInvestments(London:EuromoneyInstitutionalInvestor,2003).
Chapter6FundsofHedgeFunds,bySohailJaffer
Chapter27StyleDrifts:Monitoring,DetectionandControl,byPierreYvesMoix
58. LarsJaeger,ThroughtheAlphaSmokeScreens:AGuidetoHedgeFundReturns(New
York:InstitutionalInvestorBooks,2005).
Chapter5IndividualHedgeFundStrategies
Chapter7PortfolioRisk:AnalyticalMethods
Chapter17VaRandRiskBudgetinginInvestmentManagement
60. RenStulz,HedgeFunds:Past,PresentandFuture,Copyofarticleavailableat
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=939629.
61. RobertLittermanandtheQuantitativeResourcesGroup,ModernInvestment
Management:AnEquilibriumApproach(Hoboken,NJ:JohnWiley&Sons:2003).
Chapter17RiskMonitoringandPerformanceMeasurement

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62. LeslieRahl(editor),RiskBudgeting:ANewApproachtoInvesting(London:RiskBooks,
2004).
Chapter6RiskBudgetingforPensionFundsandInvestmentManagersUsingVaR,by
MichelleMcCarthy

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ReadingsforRiskManagementandInvestmentManagementAIMS
GrinoldandKahn,ActivePortfolioManagement:AQuantitativeApproachforProducing
Chapter14PortfolioConstruction
Describetheinputstotheportfolioconstructionprocess.
Discussthemotivationandmethodsforrefiningalphasintheimplementationprocess.
Describeneutralizationandmethodsforrefiningalphastobeneutral.
Discusstheimplicationstransactioncostshaveonportfolioconstruction.
Discusspracticalissuesinportfolioconstructionsuchasdeterminationofriskaversion,
incorporationofspecificriskaversion,andproperalphacoverage.
Describeportfoliorevisionsandrebalancingandthetradeoffsbetweenalpha,risk,
transactioncostsandtimehorizon.
o Discusstheoptimalnotraderegionforrebalancingwithtransactioncosts.
Describethefollowingportfolioconstructiontechniques,includingstrengthsand
weaknesses:
o Screens
o Stratification
o Linearprogramming
o Quadraticprogramming
Definedispersion,itscausesandmethodsforcontrollingformsofdispersion.
GrinoldandKahn,ActivePortfolioManagement:AQuantitativeApproachforProducing
Chapter17PerformanceAnalysis
Describethegoalofperformanceanalysisanditsusesforinvestorsandfundmanagers.
Discussthetradeoffofskillandluckinfundmanagement,includingtheimplicationofthe
efficientmarkethypothesisforactivemanagement.
Defineandcomputethecompoundtotalreturn,geometricaveragereturn,averagelog
returnandthearithmeticaveragereturnforaportfolio.
Describecrosssectionalanalysisofperformancedataanddiscussshortcomingsofthis
approach.
Describethereturnregressionapproachtoperformanceanalysisandinterpretresulting
alphavalues.

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Describerefinementstothebasicreturnbasedperformanceassessmentmodelsincluding
Bayesiancorrection,adjustmentsforheteroskedasticityandautocorrelation,inclusionof
benchmarktimingandstyleanalysis,andcontrollingforsizeandvalue.
Describeportfoliobasedperformanceanalysis,includingtheuseofperformance
attributionandperformanceanalysis.
Define,describeandcalculateactivesystematicreturns,expectedactivebetareturns,
activebetasurprise,andactivebenchmarktimingreturn.
LarsJaeger(ed),TheNewGenerationofRiskManagementforHedgeFundsandPrivateEquity
Investments(London:EuromoneyInstitutionalInvestor,2003).
Chapter6FundsofHedgeFunds,bySohailJaffer
Explainthegeneralstructure,objectives,andcharacteristicsoffundsofhedgefunds.
Explainhowfundsofhedgefundscanbeclassifiedaccordingtostyle,strategy,asset
allocationanddiversificationcharacteristics.
Discussconsiderationsforstrategyallocationinafundofhedgefunds.
Discussconsiderationsintheduediligenceprocessofselectingafundofhedgefunds
manager.
Discusstheobjectivesofhedgefundinvestorsinseekingdisclosurefromfundofhedge
fundmanagersandtheIRCrecommendedalternativetofullpositiondisclosure.
Discussriskmanagement,transparency,andliquidityconsiderationsforafundofhedge
fundsmanager.
LarsJaeger(ed),TheNewGenerationofRiskManagementforHedgeFundsandPrivateEquity
Investments(London:EuromoneyInstitutionalInvestor,2003).
Chapter27StyleDrifts:Monitoring,DetectionandControl,byPierreYvesMoix
Describetheconceptsofinvestmentstyleandstrategywithinhedgefundinvesting.
Discussthedifferencesininvestmentstyleassessmentofhedgefundsandtraditionallong
onlyinvestmentfunds.
Definetheconceptofstyledriftasitpertainstohedgefunds.
Discusstheimportanceofdetecting,monitoring,andcontrolofstyleandstrategydriftsfor
hedgefundinvestors.

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Discussreasonshedgefundmanagersmaydriftfromtheirstyles.
Discussapproachesformonitoring,detectionandcontrolofstyledrift.
LarsJaeger,ThroughtheAlphaSmokeScreens:AGuidetoHedgeFundReturns(NewYork:
InstitutionalInvestorBooks,2005).
Chapter5IndividualHedgeFundStrategies
Describetheunderlyingcharacteristics,sourcesofreturnsandriskexposuresofvarious
hedgefundstrategiesincluding
o Equitylong/short
o Marketneutral
o Statisticalarbitrage
o Markettiming
o Shortselling
o Distressedsecurities
o Fixedincomearbitrage
o Capitalstructurearbitrage
o Eventdrivenandmergerarbitrage
o Globalmacro
o RegulationD
o Commoditytradingadviser
o Relativevalue
o Volatilityarbitrage
Describethereasonsbehindmarketinefficienciesandwaystoexploittheseinefficiencies.
Explaintheimportanceofindividualfundmanagersskillinperformanceofhedgefunds.
Chapter7PortfolioRisk:AnalyticalMethods
DefineanddistinguishbetweenindividualVaR,incrementalVaRanddiversifiedportfolio
VaR.
Discusstherolecorrelationhasonportfoliorisk.

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ComputediversifiedVaR,individualVaR,andundiversifiedVaRofaportfolio.
Define,compute,andexplaintheusesofmarginalVaR,incrementalVaR,andcomponent
VaR.
DescribethechallengesassociatedwithVaRmeasurementasportfoliosizeincreases.
DemonstratehowonecanusemarginalVaRtoguidedecisionsaboutportfolioVaR.
Explainthedifferencebetweenriskmanagementandportfoliomanagement,and
demonstratehowtousemarginalVaRinportfoliomanagement.
Chapter17VaRandRiskBudgetinginInvestmentManagement
Defineriskbudgeting.
Discusstheimpacthorizon,turnoverandleveragehaveontheriskmanagementprocessin
theinvestmentmanagementindustry.
Describetheinvestmentprocessoflargeinvestorssuchaspensionfunds.
Describetheriskmanagementchallengeswithhedgefunds.
Defineanddescribethefollowingtypesofrisk
o Absoluterisk
o Relativerisk
o Policymixrisk
o Activemanagementrisk
o Fundingrisk
o Sponsorrisk
DescribehowVaRcanbeusedtocheckcompliance,monitorriskbudgetsandreverse
engineersourcesofrisk.
ExplainhowVaRcanbeusedintheinvestmentprocessanddevelopmentofinvestment
guidelines.
Describetheriskbudgetingprocessacrossassetclassesandactivemanagers.
o Definetrackingerrorandinformationratio.

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RenStulz,HedgeFunds:Past,PresentandFuture,Copyofarticleavailableat
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=939629.
Compareandcontrasthedgefundsandmutualfunds.
Analyzetheimplicationstheincentivestructureofhedgefundshasontheriskand
performanceofthefunds.
Discusstheimplicationsofahighwatermark,investmentredemptionrestrictionsand
disclosurerequirementsforhedgefunds.
Describehowhedgefundsexploitarbitrageopportunitiesandcanbemoreeffectivethan
mutualfundsatmakingmarketsefficient.
Describeanddistinguishbetweenvarioushedgefundstrategies,including:
o Long/shortequityhedgefunds
o Eventdrivenhedgefunds
o Macrohedgefunds
o Fixedincomearbitragehedgefunds
Discussdifficultieswithevaluatinghedgefundperformanceandrisk,includingsampling
biasandvaluation.
Summarizeempiricalresearchonhedgefundperformance.
Discussthefollowingrisksthatconcernregulatorswithrespecttohedgefunds:
o Investorprotection
o Riskstofinancialinstitutions
o Liquidityrisk
o Excessvolatilityrisk
Describehowthefutureofhedgefundscouldbeimpactedbycompetition,increased
institutionalinvestmentsandregulation.
RobertLittermanandtheQuantitativeResourcesGroup,ModernInvestmentManagement:An
EquilibriumApproach(Hoboken,NJ:JohnWiley&Sons:2003).
Chapter17RiskMonitoringandPerformanceMeasurement
Define,compareandcontrastVaRandtrackingerrorasriskmeasures.
Describeriskplanningincludingobjectivesandparticipantsinitsdevelopment.
Describeriskbudgetingandtheroleofquantitativemethods.
Describeriskmonitoringanditsroleinaninternalcontrolenvironment.
Discusssourcesofriskconsciousnesswithinanorganization.

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Discusstheobjectivesofariskmanagementunitinaninvestmentmanagementfirm.
Describehowriskmonitoringconfirmsthatinvestmentactivitiesareconsistentwith
expectations.
Discusstheimportanceofliquidityconsiderationsforaportfolio.
Explaintheobjectivesofperformancemeasurement.
Describecommonfeaturesofaperformancemeasurementframeworkincluding:
o Comparisonofperformancewithexpectations
o Returnattribution
o MetricssuchasSharpeandinformationratios
o Comparisonswithbenchmarkportfoliosandpeergroups.
LeslieRahl(editor),RiskBudgeting:ANewApproachtoInvesting(London:RiskBooks,2004).
Chapter6RiskBudgetingforPensionFundsandInvestmentManagersUsingVaR,by
MichelleMcCarthy
DiscusshowVaRdiffersfromtraditionalportfolioriskmeasures.
IdentifyanddiscusscommonmisconceptionsaboutVaR.
Discusskeymarketrisksforpensionfundsandassetmanagementfirms.
Defineriskbudgetingandidentifycomponentsinaninvestmentprocesswhichmaybe
subjecttoariskbudget.
Discussrisktolerancethresholdsanddescribecommonwayssuchthresholdsare
determined.
Identifyanddiscussfactorsthatdifferentiateriskbudgetingfromassetallocation.
IdentifypracticesthatcandecreasethevalidityofaVaRmeasureanddiscuss
considerationsformaintainingaqualityVaRmeasure.
Identifypotentialactionstotakeifrisktolerancethresholdsareexceeded.
Compareandcontrastriskbudgetingwithtraditionalmeansofmeasuringandcontrolling
riskincluding:(i)assetallocation,(ii)investmentguidelines,(iii)standarddeviation,(iv)
beta,and(v)duration.
ExplainhowbacktestingcanbeusedtocalibrateaVaRmodel.

CurrentIssuesinFinancialMarkets
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Causesandconsequencesofthecurrentcrisis
Subprimemortgagedesign
Mortgagesandsecuritization,subprimeCDOs
Liquiditycrises
UseandlimitationsofVaR
Hedgefundsandsystemicrisk
ReadingsforCurrentIssuesinFinancialMarkets
63. GaryGorton,Information,Liquidity,andthe(Ongoing)Panicof2007,(January2009).
AvailableatSSRN:http://ssrn.com/abstract=1324195
64. RaghuramRajan,HasFinancialDevelopmentMadeTheWorldRiskier?(September
2005).Availableathttp://faculty.chicagobooth.edu/raghuram.rajan/research/finrisk.pdf.
65. FSA,FSAmovestoenhancesupervisioninwakeofNorthernRock:Executive
Summary.Availableathttp://www.fsa.gov.uk/pubs/other/exec_summary.pdf.
66. SeniorSupervisoryGroup,ObservationsonRiskManagementPracticesduringthe
RecentMarketTurbulence,(March2008).Availableat:
www.newyorkfed.org/newsevents/news/banking/2008/ssg_risk_mgt_doc_final.pdf.
67. JohnMartin,APrimerontheRoleofSecuritizationintheCreditMarketCrisisof
2007,(January2009).AvailableatSSRN:http://ssrn.com/abstract=1324349.
68. UBS,ShareholderReportonUBSsWriteDowns,(April2008).Availableat:
www.ubs.com/1/ShowMedia/investors/shareholderreport?contentId=140333&name=08041
8ShareholderReport.pdf.
69. AndrewG.Haldane,WhyBanksFailedtheStressTest,(February2009).Availableat:
www.bankofengland.co.uk/publications/speeches/2009/speech374.pdf.
70. AndrewLo,HedgeFunds,SystemicRisk,andtheFinancialCrisisof20072008:Written
TestimonyfortheHouseOversightCommitteeHearingonHedgeFunds,(November
2008).AvailableatSSRN:http://ssrn.com/abstract=1301217.

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ReadingsforCurrentIssuesinFinancialMarketsAIMS
GaryGorton,Information,Liquidity,andthe(Ongoing)Panicof2007,(January2009).
AvailableatSSRN:http://ssrn.com/abstract=1324195
DescribetheABXIndexanditscomposition.
DescribethemotivationsofprotectionbuyersandsellersinanABXindexcontractandthe
exchangeofpayments.
DiscusstheroleABXindicesplayedinthecurrentcrisis.
DiscusstherelationshipbetweentherepomarketandtheABXindicesandhowa
breakdownintherelationshipinthesetwomarketscanleadtoaliquiditycrisis.
Describetheeffectanincreaseinrepomarkethaircutshasonahighlyleveragedfirm.
RaghuramRajan,HasFinancialDevelopmentMadeTheWorldRiskier?(September2005).
Availableathttp://faculty.chicagobooth.edu/raghuram.rajan/research/finrisk.pdf.
Listkeydriversofchangeinthefinanciallandscapeoverthepastthirtyyearsanddescribe
theirimpact.
Describewaysinwhichincentivestructuresforinvestmentmanagerstodaydifferfrom
thoseofbankmanagersofthepastandthetypesofperversebehaviortheycaninduce.
Describetheimpacttechnologyhashadonbanklending,regulation,andcompetition.
Explainhowbankscapitalstructuremayexplainbanksorganizationalform.
Discusshowtherisktransferandriskwarehousingfunctionofbankshasimpactedthe
overallriskinessofthebankingsystem.
Explainthelinkbetweenmarketintegrationandthedemandsonmarketsuperstructures.
Explainthefollowingtopicsastheyrelatetoinvestmentmanagerbehaviorpatterns:
o Hiddentailrisk
o Herding
o Lowinterestrates
Describehowmodernbankbehaviormayimpactmarketliquidityinadownturn.
Differentiatebetweenmicroprudentialandmacroprudentialreasonsforsupervisionand
describesomeoftheinstrumentsofprudentialsupervision.

Page83of86
FSA,FSAmovestoenhancesupervisioninwakeofNorthernRock:ExecutiveSummary.
Availableathttp://www.fsa.gov.uk/pubs/other/exec_summary.pdf.
DescriberisksthattheFSAmayhaveoverlookedrelatedtoNorthernRocksrapid
expansion.
DescribeFSAsassumptionsaboutNorthernRocksaccesstoliquiditythatmayhavebeen
flawed.
DescribedepositorresponsetoNorthernRocksdifficulties.
DescribepersonnelissuesatFSAthatmayhaveledtoshortcomingsinsupervision.
SeniorSupervisoryGroup,ObservationsonRiskManagementPracticesduringtheRecent
MarketTurbulence,(March2008).Availableat:
www.newyorkfed.org/newsevents/news/banking/2008/ssg_risk_mgt_doc_final.pdf.
Describeareasofriskmanagementpracticesthatdifferentiatedfirmperformanceduring
therecentmarketcrisis.
Describeandgiveexamplesofwaysinwhichtheactionsofseniormanagement
differentiatedfirmperformanceduringtherecentmarketcrisis.
Describeandgiveexamplesofwaysinwhichthemanagementofliquidity,credit,and
marketriskdifferentiatedfirmperformanceduringtherecentmarketcrisis.
DiscussproblemsandshortcomingsfirmsencounteredintheiruseofVaRandstresstests.
JohnMartin,APrimerontheRoleofSecuritizationintheCreditMarketCrisisof2007,
(January2009).AvailableatSSRN:http://ssrn.com/abstract=1324349.
Discusstheargumentthatthetraditionaloriginatetoholdmodelofcreditmarketstothe
originatetodistributemodelwasaprimarydriverofthecurrentcrisis.
Describeandidentifythebasicsofthesecuritizationprocessandtheroleeachparticipant.

Page84of86
Explainthepotentialbenefitsandproblemstooriginatingfirmsthatcanbederivedfrom
securitization.
Discussthemotivationforinvestinginmortgagebackedsecurities.
Definewarehousingandresidualinterestrisk.
Discusstheevidencethatcreditstandardsformortgagesdeclinedintheearly2000s.
Explainhowthecomplexityofmultilayersecuritizationleadstolossofinformation
Explaintheeffectoffallingresidentialrealestatepricesonmortgagebackedsecurity
portfolios.
DiscusshowmarktomarketaccountingofMBSsimpactedfirms.
UBS,ShareholderReportonUBSsWriteDowns,(April2008).Availableat:
www.ubs.com/1/ShowMedia/investors/shareholderreport?contentId=140333&name=080418Shareh
olderReport.pdf.
DiscussfactorsthatcontributedtoUBSholdingmoreCDOrelatedriskovertime,including
hedgingandpositionlimitdecisions.
Discusstheimpactgrowthandrevenuepressureshadoninternaldecisionmaking
processesatUBS.
DescribetheprimarymarketriskmonitoringmetricsusedbyUBSanddiscussriskcontrol
mechanismsthatUBSdidnothaveinplace.
DescribeshortcomingsofthedatausedbyUBSforCDOvolatilitymodeling,theproblems
causedbyafailuretolookthroughtheCDOstructuretotheunderlyingassets,andother
deficienciesinUBSsriskmeasuringandmonitoringtools.
DescribeshortcomingsinUBSsriskreportingframeworkincludingtheimpactofhedging
assumptionsonVaRcalculations.
DiscussmismatchesinUBSsfunding/liabilityframework.
DiscussproblemsthatderivedfromUBSsrelianceonexternalratings.
DescribeproblemsrelatedtoUBSstradeapprovalprocessandtheorganizational
relationshipbetweenstructuringandtradinggroups.
Describecompensationstructureissuesthatcontributedtoexcessiveorpoorlycontrolled
risktakingatUBS.

Page85of86
AndrewG.Haldane,WhyBanksFailedtheStressTest,(February2009).Availableat:
www.bankofengland.co.uk/publications/speeches/2009/speech374.pdf.
Discusshowflawsinriskmanagementmodelscancausefinancialcrises.
Describethefollowingeconomicfrictionsanddiscusstheriskmanagementimplicationsof
each:
o Disastermyopia
o Networkexternalities
o Misalignedincentives
Explainhowriskmodelshavecontributedtothecurrentcrisis.
Discussmethodsforimprovingstresstestingamongfinancialinstitutions
AndrewLo,HedgeFunds,SystemicRisk,andtheFinancialCrisisof20072008:Written
TestimonyfortheHouseOversightCommitteeHearingonHedgeFunds,(November2008).
AvailableatSSRN:http://ssrn.com/abstract=1301217.
Describesystemicrisk,anddiscusstheroleofleverage,liquidity,correlation,
concentration,sensitivitiesandconnectedness.
Discusstheincreaseinabsolutecorrelationsamonghedgefundstrategiesinrecentyears
anditsimplications.
Explainsomeofthebeneficialroleshedgefundsplayintheglobalfinancialsystem.
Describethebehavioralaspectsthatareatthefoundationsofsystemicrisk.
Discusstheimportanceoftransparencyformanagingsystemicrisk.
Explainhowtheincreasedcomplexityoffinancialmarketshasmagnifiedtheimportanceof
financialeducationandexpertise.

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